Brian Dolan
Chief Currency Strategist

Jacob Oubina
Currency Strategist

Research Note: Bank of England Rate Decision April 9, 2009

Summary Outlook: The Bank of England (BOE) will announce its decision on interest rates tomorrow at 0700EDT (1100GMT). It may be a non-event if the BOE meets consensus expectations and holds rates steady at 0.5%, as they typically do not issue a statement when rates are unchanged, but times are far from typical. The other element of the non-event scenario is that the BOE has already announced quantitative easing measures and is unlikely to expand on them, reducing the chances of a significant policy announcement.

The risk is that they go the final step and cut rates to zero or near-zero, similar to what the Fed has done, a move which might smell of panic. We think such a move would be GBP-negative, both on a relative interest rate basis and on fears that the BOE foresees even greater economic distress ahead, despite some signs of stabilization in recent data (see below). Also, the surprise timing of a cut would likely exacerbate downside GBP volatility.

Trading Strategy: Absent the unexpected, we think GBP will largely ignore the BOE decision and may even strengthen slightly on the view that the BOE is now more firmly on hold for the foreseeable future. Should rates be cut further, we would look for a quick sell-off in Cable (GBP/USD) and a pronounced rally in EUR/GBP.

We would note that EUR/GBP today bounced off key daily trend line support just above 0.8950 and is in a clearly defined hourly down channel, with the channel top at 0.9055/60. We would consider getting long EUR/GBP on further weakness toward 0.8950 ahead of the BOE announcement, with a stop loss at 0.8915. Should EUR/GBP break above the 0.9055/60 channel top, we would look to be buyers on subsequent re-tests of the break, using a 30 point stop loss, and target gains overall back to the 0.9140/50 level.

Economic Analysis: In terms of the UK economic outlook, some indicators suggest the worst of the downturn could be over. This is not to say that they are out of the woods just yet, but increases in some leading indicators point to some stabilization (albeit at ultra low levels). The GfK consumer confidence report improved to -30 for March, the second monthly increase and the best print since May 2008 - before the financial crisis intensified in earnest. In other less bad news, both the manufacturing and services PMIs increased in March - to 39.1 and 45.5, respectively. While both remain well below the expansionary 50 level, the fact that they are well off the cycle lows suggests business optimism could have already put in its nadir.

Not all is hunky-dory, though. Jobless claims remain at extraordinarily high levels and the latest credit numbers suggest the consumer deleveraging phase is ongoing. Unemployment claims increased 138K in February from 94K the prior month while net consumer credit slipped into negative terrain for the first time since 1993. These two metrics point to a very slow recovery in consumer spending and as such an economy that is likely to languish for the foreseeable future. Rate cuts and quantitative easing have done little to alleviate economic strains as demand for borrowing is limited while lenders are still quite risk-averse.

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