Politics was no friend to the GBP/USD pair, yet the pound still found a way to benefit from the change of prime minister. The new government is expected to stick to the same fiscal framework, providing support for the currency. Let’s discuss these topics and develop a trading plan.
The article covers the following subjects:
Major Takeaways
- Speculation over a new Chancellor boosted the pound.
- The narrowing of the risk premium is driving the GBP/USD rally.
- Divergence in monetary policy is benefiting the pound.
- Consider buying the GBP/USD pair, targeting 1.364.
Weekly Fundamental Forecast for Pound Sterling
A month ago, anyone predicting that the pound would emerge as the top performer in the G10 currency race, with its trade-weighted index climbing to a yearly high, would have been met with laughter. Prime Minister Keir Starmer’s resignation, a weakening British economy, and visible splits within the Bank of England had all pushed sterling to the bottom of the pack. That is precisely what makes its turnaround from ugly duckling to beautiful swan so remarkable.
Pound Index Movement
Source: Bloomberg.
Prime Minister-designate Andy Burnham’s decision to adhere to the existing fiscal rules, combined with rumors that he would appoint a less profligate chancellor than markets had feared, sent GBP/USD soaring to two-month highs.
According to Deutsche Bank, the pound’s turnaround came down to risk premium. Amid the political crisis, investors had been demanding a hefty premium to hold British assets. Once it became clear the situation was not as dire as portrayed, that risk premium began to unwind, and demand for British assets picked up. However, the bank believes most of the good news is already priced in, and sterling will need a fresh catalyst to extend its rally.
Macro data may well play that role. The economic calendar for the week ending July 24 is packed with key releases, including UK labor market figures, inflation, retail sales, and PMI data. Should these numbers indicate an improving economy, they would raise the odds of the Bank of England tightening monetary policy, lending further support to the pound.
The derivatives market is now fully convinced the repo rate will rise by November, with more than a 50% probability priced in for a September hike. A second round of tightening is fully priced in by April 2027, and there is a good chance the Bank could act as early as 2026.
Market Expectations for ECB and BoE Interest Rates
Source: Bloomberg.
The divergence is providing a tailwind for GBP/USD, especially as the odds of an aggressive Fed rate hike keep fading by the day. Kevin Warsh believes massive investment in artificial intelligence will not necessarily fuel inflation, while New York Fed President John Williams thinks consumer prices have already peaked. That slowdown in inflation would reduce the need for the Fed to tighten monetary policy further.
Thus, the stabilizing political backdrop in Britain, the unwinding risk premium on British assets, and diverging monetary policy expectations are combining to lift the pound.
Weekly Trading Plan for GBP/USD
During the rally, GBP/USD hit the first of two long-trade targets set earlier, at 1.355. The second target, 1.364, is still ahead. After that, a natural pullback followed amid profit-taking. This pullback can be used to enter new long positions.
This forecast is based on the analysis of fundamental factors, including official statements from financial institutions and regulators, various geopolitical and economic developments, and statistical data. Historical market data are also considered.
Price chart of GBPUSD in real time mode
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