Sterling is undervalued

Find out our view on whether the pound is undervalued or at fair value and discover the investor takeaways.

At a glance

Sterling has weakened from its December post-election highs on concerns that a new trade deal won't be agreed by the end of the year. We think that only a limited trade agreement with the EU can be reached this year. Sterling is undervalued and we are overweight the pound versus the dollar. We see GBPUSD levels below 1.30 as a buying opportunity to benefit from sterling’s longer-term appreciation potential.

The post-Brexit pound.

The UK formally left the EU at the end of January and entered a transition period that will run for the rest of the year. Sterling has weakened from its December post-election highs on concerns that a new trade deal won't be agreed by the end of the year. We expect a limited trade agreement to be reached by December, and emerging clarity on the UK-EU trading relationship should support sterling. The US dollar is also likely to weaken as the year progresses, in our view.

Prime Minister Boris Johnson’s comments show a clear desire to increase spending and in the 11 March budget, the new UK chancellor, Rishi Sunak, is likely to deliver some sizeable giveaways. The likelihood of fiscal easing and recent economic data mean the Bank of England will not be under pressure to ease monetary policy when it meets on 26 March, which should help support the pound.

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Is the pound undervalued?

In our FX strategy, we are overweight the British pound versus the US dollar. If near-term uncertainty weakens sterling to below 1.30, we see this as a good buying opportunity. The British pound has been undervalued against the dollar since 2014, and since the Brexit referendum the extent of its undervaluation has increased. We think it has appreciation potential, particularly against the US dollar over our tactical investment horizon. We expect GBPUSD to rise to 1.40 by end-2020. The equilibrium three years ahead remains far higher, at 1.54, and we suggest no longer hedging strategic exposure to UK stocks.

Key takeaways

  • Concerns that the UK will not reach a trade deal with the EU this year have weakened sterling.
  • We think a limited trade deal can be reached this year, so see levels below 1.30 versus the dollar as a buying opportunity.
  • We expect sterling to rise to 1.40 by year-end.
  • The longer-term equilibrium rate is higher at 1.54, so we suggest no longer currency hedge strategic exposure to UK stocks.

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