Will 2024 be a good year for sterling?

Looking back, 2023 wasn’t a bad year for the pound. Granted, a 5.3% gain versus the dollar and a 2.1% advance on the euro isn’t going to get anyone too excited, but given the long-term downtrend of the currency, the political and economic headwinds facing the UK, and the plethora of analysts who were bearish on sterling at the start of the year, things could have been a lot worse.

The question now is: will the pound fare any better in 2024 or will it return to the doldrums and once again be the currency that everyone loves to hate?

First up, the positives… Last week’s November GDP print showed a monthly gain of +0.3%, aided by gains in both industrial production (+0.3%) and services output (+0.4%). That reversed the 0.3% decline seen in October and the market took this as a positive, immediately pricing out ~10bps of rate cuts for this year. Meanwhile, other indicators suggest that the UK economy is holding up surprisingly well despite the challenges posed by higher rates and the sharp rise in the cost of living. The forward-looking PMI surveys have shown a pickup in activity in both the services and manufacturing sectors, and the housing market – which many feared would collapse under the strain of higher interest rates – has held up relatively well.

Assuming the UK economy avoids a deep recession, we see minimal pressure on the Bank of England to cut rates aggressively. Instead, it can continue to focus on its primary goal of maintaining price stability. This, in turn, should help support sterling, particularly if other central banks are adopting a more accommodative stance.

However, as we know, there are two sides to every coin and given sterling’s sobering performance ever since the financial crisis of 2008/09, the bears have been rewarded more often than the bulls. Cynics will argue that November’s GDP gain was simply a reversal of a weather-related decline in October following the wettest month on record and, while the PMI readings have gradually been improving in recent months, the manufacturing report still shows the sector contracting.

Looking ahead at 2024, the economy looks set to encounter a multitude of headwinds. We’ve discussed the higher-for-longer theme at length in recent months and, even though around half of all outstanding fixed rate mortgages have been refinanced since 2021, there’s still a significant amount of mortgage debt to come off low fixed-rates between here and 2026. Whilst higher wages are helping to weather the storm, borrowers will still feel the pain of higher rates.

Sterling is also at risk from political uncertainty going into the second half of 2024. Although the exact date of the next general election is still unknown, Prime Minister Rishi Sunak has stated that it is on the agenda for the second half of this year and consequently most commentators have it pencilled in for October / November. Whilst a change at the top is almost inevitable, it is less clear what the next government will look like (will Labour win enough seats for an overall majority, or will another coalition be required?).

Finally, the ongoing conflicts in both Europe and the Middle East look set to continue disrupting global trade, with European economies being most affected. The risks for the UK are amplified given our reliance on imports (both goods and energy). Clearly, inflationary pressures have eased in recent months, but further disruption to the supply chain coupled with elevated wages mean that the Bank of England faces a greater challenge than most.

Overall, we view the risks to the UK economy in 2024 as relatively balanced. However, as highlighted in last week’s ‘Interest Rates in 2024’, we see a risk that the market is overpricing aggressive cuts for the UK which may not materialise if inflation (wage growth in particular) continues to remain sticky and the economy avoids anything deeper than a very minor recession. In turn, this should help support the pound. That said, sterling’s fate most probably lies in the hands of its counterparts, particularly the dollar. It is our bearish bias there that is the greatest influence behind our bullish bias for GBPUSD this year. More on that in the coming weeks…