Bank Of England Poses Downside Sterling Risks

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The Bank of England will not issue a statement endorsing higher yields following the latest policy meeting on Thursday. There is a small chance that they will protest against rising bond yields to reinforce their determination to foster a sustained recovery in growth and this would push sterling sharply lower. The risks are, therefore, skewed towards modest sterling weakness ahead of the decision as long positions are scaled back. Overall, look to sell sterling/dollar in the 1.5630/40 resistance band for a move towards 1.5550.

The Bank of England Monetary Policy Committee (MPC) will announce its decision on interest rates and asset purchases at 11.00 GMT on Thursday. There looks to be very little chance that there will be a change in either policy targets at this meeting.

There will certainly be an important and lively debate within the committee surrounding growth and monetary policy, especially after the series of stronger than expected data releases. Given the dominance of the services sector within the economy there will be a particular focus on the services PMI reading, which rose to 60.5 for August, the strongest reading since early 2007.

Markets are continuing to anticipate that the Bank of England will have to raise interest rates sooner than the three-year horizon targeted under the recently introduced forward guidance. Markets are currently pricing in a move during the first half of 2015. There are likely to be some concerns surrounding inflation trends within the MPC, but the majority view is likely to focus, for now at least, on the need to avoid damaging the economic recovery through higher interest rates.

The most important factor for the markets will be whether there is a statement following the meeting. In normal circumstances, there is only a statement when a policy change is announced. New Governor Carney broke with this tradition at his first meeting in July with a statement effectively opposing the rise in gilt yields. Benchmark 10-year yields had risen to above 2.50% in early July from 2.20% in June and there has been a further increase since then to around 2.90%.

The MPC will certainly be concerned that rising yields will quickly choke-off any recovery economic recovery. The most likely outcome is that there will be no statement with the discussion getting a full public airing when the minutes are released in two weeks' time. The bank will also be aware that further public statements reinforcing forward guidance could be counter-productive to credibility. There is, however, a small chance that the bank will look to strengthen its commitment to forward guidance and low interest rates.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.