GBP outlook: BoE policy confusion to render markets directionless - ING

"Status quo from the BoE this week - and a lack of emerging consensus over how best to address the growth-inflation trade-off - is unlikely to have a major impact on short-term UK interest rates or the near-term outlook for the pound," argues Viraj Patel, Foreign Exchange Strategist at ING.

Key quotes:

"While some of the recent hawkish sentiment may fade as a result of the Bank showing little appetite for a policy change, we suspect that only a formal ruling out of a 2017 rate hike by Governor Carney - if explicitly asked in the post-meeting press conference - would have a sustained negative impact on GBP. We see this as highly unlikely given that BoE officials will probably want to keep all policy options on the table."
 
GBP/USD: Recent rally more dollar weakness, less sterling optimism

"The move above 1.30 has been supported by a narrowing of UK-US rate differentials, though much of the heavy-lifting has come from fading Fed rate hike expectations - as opposed to greater market confidence over a BoE hiking cycle. Our short-term financial models show GBP/USD fairly priced around the 1.3100-1.3150 area meaning that it should be fairly responsive to a dovish or hawkish BoE surprise this week. Neutral positioning - with short GBP bets still hovering around their lowest since Brexit - also suggests greater two-ways risks. A more dovish tone from the Bank this week could see a retreat back towards the 1.30 level."

"We still retain a mildly bearish outlook for GBP/USD over 3Q17. A US data-driven recovery in the markets' outlook for Fed policy should see the USD sentiment recover from its current lows, while it may take another layer of bad US political news to take the USD another leg lower. Any recovery in the USD will be most pronounced against those currencies where there are clearer signs of monetary policy divergence; a more cautious approach from the BoE this week could mean that GBP/USD is one of the crosses where we see greater downside potential in a recovering dollar market."

EUR/GBP: 90s Throwback?

"A more dovish-than-expected BoE message this week could see EUR/GBP test the psychological 0.90 level. Under our central scenario of policy confusion, however, we think there will be little dovish momentum to take us beyond here; in the absence of Bank officials playing down prospects of a near-term rate hike, we suspect EUR/GBP bulls will have little new information to work with."

"The tailwind of a stronger EUR - driven by ECB QE tapering expectations - has kept the pair honest around current levels. After widening to around 83.5bp in late June, UK-EZ 2-year swap rate differentials have narrowed to 75bp over July and this is consistent with a modest rise in EUR/GBP towards 0.89."

"We continue to forecast EUR/GBP at 0.90 in 2H17 - although we do see growing risks of a near-term overshoot. A more cautious ECB - as well as progress towards a Brexit transition deal later this year - are why we think a sustained move beyond 0.90 looks unlikely at this stage."