UK was just mourning the death of its queen and now it faces another low point – British pound (GBP) tanked 5% on Monday to a 37-year low against the USD.
The GBP was very close in reaching parity with the USD as one pound hit US$1.0327 at the lowest point.
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The collapse of the pound is impactful in a way because it is a story about a country’s fall from glory.
UK held the record of being the largest empire in history, and it is now a shadow of its former self.
The pound is also the oldest currency in the world that has been used continuously since 800.
The currency was once circulated throughout the empire but has since been replaced by USD as the most important currency in the world.
When the US sneezes, everyone else catches a cold.
USD has been strengthening against many currencies as the Fed was aggressively hiking the interest rates.
Any country who is not raising its interest rates would see its currency weaken against the USD.
The Bank of England (BOE) has been keeping up and has raised interest rate 7 times this year, from near zero to 2.25% currently. Inflation rate remains high at 8.6%.
If BOE has been raising rates, why did GBP lose its value so much?
UK’s strategy seems to be tightening its monetary policy while pursuing an expansionary fiscal policy – Chancellor of the Exchequer is proposing the biggest tax cuts since 1972 to boost the economy.
But the market is not buying the fiscal plans as UK is already in a budget deficit and yet insists on a huge stimulus.
Besides the weakening pound, another indication of risk in the UK is the rising yields of the UK 10y government bonds. It has hit an 11-year high, inching to 4%.
To make matter worse, the old wounds have yet to be healed. UK exited the EU in early 2020 and it is estimated that Brexit would slow UK growth by 2-8% for at least 15 years.
You might be thinking of buying pounds as it seems ‘cheap’ and the drop overdone.
The GBP has since recovered a part of the loss to about US$1.08. Bloomberg covered the story about a hedge fund manager buying pound near the bottom.
Although it seems like a profitable trade for now, it remains to be seen how GBP will fair going forward.
The overall trend is still down and it is not for the faint hearted to do a contrarian bet.
The hedge fund manager also said that he had need for the pound to finance UK investments.
It is more sound to buy pounds from that perspective. Likewise, buy if you have the need for pounds, whether for travel or investments or because your child is studying in UK.
Otherwise, both fundamental and technical analyses suggest a weak pound is likely to sustain.
