LONDON: Sterling closed in on its biggest weekly fall against the dollar in six weeks on Friday, still feeling the negative effects of a shift in expectations on when the Bank of England will raise interest rates.
Traders widely expect the BoE to be the first major central bank to raise rates, probably early next year. But its quarterly inflation report and accompanying remarks by Governor Mark Carney earlier this week suggested it may not move quite as soon as many had anticipated.
The pound fought off further downward pressure on Friday, however, holding its ground against the two major global currencies. Weaker-than-expected US and euro zone data the previous day made the UK economy look better by comparison.
"We think sterling is topping out at the $1.70 level against the dollar.
It might make another test of $1.70 in the very near term, but we don't think it will make a lasting break above," said Alvin Tan, senior currency strategist at Societe Generale in London.
"But we think sterling will continue to do well against the euro," Tan said. "The policy divergence between the UK and euro area is much more stark. As we move forward, that difference will become even greater."
In early trade in London on Friday, sterling was flat on the day against the dollar at $1.6790 and at 81.63 pence to the euro.
The pound is down a third of one percent against the dollar this week, its biggest weekly decline in six. On a trade-weighted basis against a basket of major currencies, sterling was down around a quarter of one percent on the week, the biggest weekly fall in two months.
The magnitude of the weekly declines is relatively small, however.
They also come after a rally in recent months that took sterling to a five-year high against the dollar and 16-month peak against the euro.
Tan pointed out that implied one-month volatility in sterling, the rate of expected change in its price over the coming month, is historically low and even lower relative to the dollar and euro. One-month sterling volatility is less than 5 percent , and is more than 6 percent in euro/dollar and dollar/yen.
Few in the market doubt that the BoE and European Central Bank are on different policy paths. The BoE's next step likely to be a rate hike; the ECB is preparing the ground to ease policy next month.
That points to a lower euro/sterling rate, says Tan and analysts at BNP Paribas, who recommend selling the euro at 81.40 pence to target 78.00 pence.
"We doubt that the fall in UK rates following the inflation report will last long," they said in a note on Friday, predicting that the first rate hike could even come later this year.
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