Sterling has climbed back to around one dollar thirty-two from a three-month low, and the British government did nothing to deserve it. The move came because oil eased and global bond markets stopped misbehaving, which is to say that the pound was rescued by two developments decided entirely elsewhere, by people who were not thinking about Britain when they decided them.
This is the ordinary condition of a mid-sized open currency and it is worth saying out loud, because the domestic coverage of any sterling move tends to reach immediately for a domestic cause. A fiscal statement, a vote, a set of labour market figures. Sometimes those are the story. Frequently they are not, and the honest explanation is that the barrel came off its high, the long end of the global bond market calmed down, and a currency that had been punished for sitting in the wrong place at the wrong time got un-punished by the same indifferent machinery.
The three-month low is the part that explains the rebound’s size. Currencies that have been sold hard carry a population of positions betting on further weakness, and those positions have to be bought back when the weather turns. A good deal of what looks like renewed confidence in sterling is simply people closing a trade that stopped working. The pound did not become more attractive. It became less crowded on one side.
There is a coffee version of this and it is unflattering to everyone involved. A cafe that has been quiet for a month can have a spectacular Saturday because the weather turned, the market across the road set up its stalls, and foot traffic arrived that had nothing whatsoever to do with the coffee. The owner, standing at the end of a brilliant day with a full till, has two available conclusions. One is that the new blend is working. The other is that it was sunny. The business that survives is the one run by the owner who knows which, and the tell is what happens on the following Tuesday when the stalls are gone. Sterling has had a sunny Saturday. The blend is unchanged.
Oil is the common thread running through every one of these moves, and the chain is by now well established. Energy prices drive the inflation path, the inflation path drives the rate expectation, the rate expectation drives the bond market, and the bond market drives the currency. Britain sits unusually exposed at the end of that chain because its rate path has been feeding straight into a mortgage market that reprices in public and on a short cycle, so an energy shock arrives in household finances fast and visibly. When the barrel eases, the entire sequence relaxes in reverse order, and sterling gets the benefit at the far end without having done anything at the near end.
What a borrowed rally is good for is time. A currency that has stabilised is a currency whose government is not currently being asked urgent questions by the gilt market, and that interval is genuinely valuable, because policy made under market duress is reliably worse than policy made in quiet conditions. Nobody writes a good budget while the long end is moving against them. The calm created by somebody else’s oil price is still calm, and it can be spent.
The risk is the obvious one, which is mistaking the interval for a verdict. One dollar thirty-two reached on easing oil and steadying bonds is one dollar thirty-two that is available to be taken back by tightening oil and unsteady bonds, on the same logic, with the same absence of domestic cause. The level is real while the conditions hold. The conditions are held by other people.
Sterling is up and sterling did not earn it. Both halves of that sentence are useful, and the second half is the one that tells you how long to count on the first.
Source: Trading Economics, “Sterling Rebounds from Three-Month Lows”
