Pound on course for worst week since June after BoE decision shakes up market

The pound dropped on Friday as the Bank of England’s surprise decision not to raise interest rates reverberated across markets for the second day, putting the UK currency on course for its worst week since June.

Sterling fell 0.5 per cent against the US dollar to $1.343, following Thursday’s 1.4 per cent decline and putting it within a whisker of the 2021 low of $1.341 hit in late September. It has fallen 1.8 per cent since last Friday, in the steepest weekly retreat in four-and-a-half months.

Against the euro, the pound fell 0.4 per cent to a five-week low.

Many investors were caught severely off-guard after the BoE refrained on Thursday from raising its benchmark interest rate. Markets had been primed for an increase of the central bank’s main interest rate to 0.25 per cent from a historic low of 0.1 per cent.

Senior policymakers had bolstered those expectations, analysts said, with governor Andrew Bailey warning in mid-October that the central bank would “have to act” to combat rising inflation expectations.

The initial disappointment for UK investors had been exacerbated by the perceived confusion about the BoE’s communications, as well as signs that UK growth is slowing, said Nomura currency strategist Jordan Rochester.

“Usually after a decline like yesterday’s you’ll see markets take a breather,” he said. “But the negative signs for the pound are stacking up right now.”

Reports that the UK is considering triggering the Article 16 safeguard mechanism in a bid to overhaul Northern Ireland’s controversial post-Brexit trading arrangements — potentially sparking a fresh Brexit row with the EU — were “adding conviction” to sterling’s lurch lower, Rochester added.

The move for the pound was accompanied by a further rally for UK government debt, as investors dialled down their bets on upcoming rate increases. Markets still see a December increase as a better than even chance, but the odds have receded since Thursday’s meeting, according to pricing in overnight funding markets.

The UK’s two-year bond yield, which is highly sensitive to rate expectations, fell to 0.42 per cent, having traded as high as 0.71 per cent earlier in the week. The 10-year gilt yield fell to a six-week low of 0.88 per cent.

“It is possible that the rate step expected for yesterday will follow at the next meeting on 16th December,” said Ulrich Leuchtmann, head of FX research at Commerzbank. “That does not change the fact that the deteriorated communication results in the BoE’s tools being less effective on a sustainable basis.”

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