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UK election is likely to cap the full GBP upside potential

Currency Analysis

UK election is likely to cap the full GBP upside potential

26/02/2015

DANSKE BANK. The GBP has performed strongly so far in February appreciating more than 3% against both the EUR and the USD. Fundamentally, the recovery remains on track in the UK and we are still optimistic regarding the British economy.

Today’s second release of Q4 GDP growth should confirm this view and show a solid growth of 0.5% q/q mainly driven by domestic demand and, in particular, private consumption.

We expect EUR/GBP to drop further on a three to six months’ horizon targeting the cross at 0.72 in 6M as a rate increase from the Bank of England is moving closer. In the short term, however, the UK election is likely to cap the full GBP upside potential and given that EUR/GBP now is oversold both technically and according to our short term financial models, we stress that the risk of a temporary bounce has increased markedly. Implied volatility has maturities above the 3M tenor trading substantially higher relative to the front end of the curve.

This might reduce the upside risk for EUR/GBP later in the spring.declined over the past week but the election risks still appear to be priced in the market with maturities above the 3M tenor trading substantially higher relative to the front end of the curve. This might reduce the upside risk for EUR/GBP later in the spring.

Source: Danske Bank