Sterling Stirs as Investors Disagree on Interest Rate Cap

• Sterling rises above 1.2700 after a V-shaped rally inspired by risk appetite in the markets.
• Recession fears rise in the UK as the Bank of England warns of increased risks of corporate default.
• Investors await the Jackson Hole Symposium for further guidance.

The British Pound (GBP) remains directionless after a firm recovery move as bullish market sentiment offsets the impact of weaker UK PMIs reported by S&P Global on Wednesday. The agency reported that factory activities were at their lowest level since the pandemic period, as companies underutilized their operating capacity due to grim demand prospects.

Fears of a recession in the UK economy deepened on Wednesday, as warnings from Bank of England (BoE) policymakers about significant upside risks from corporate defaults were reinforced following the release of weak PMIs. The worsening of recession fears is forcing investors to bet on a reduction in the maximum interest rates. A Reuters poll shows the BoE could pause a streak of rate tightening after a September interest rate hike.

Market Drivers: Pound Strengthens Ahead of Jackson Hole Symposium

• Pound consolidates above support at the 1.2700 round level after a V-shaped rally as market sentiment remains bullish.
• The strength of the British pound shows that investors are ignoring weak preliminary UK PMI figures for August, reported by S&P Global on Wednesday.
• S&P Global reported that the UK manufacturing PMI fell significantly to 42.5, against estimates of 45.0 and July’s reading of 45.3. It was the lowest figure in manufacturing data since the pandemic era and demonstrates the consequences of the Bank of England raising interest rates.
• The services PMI entered a contraction phase below the 50-point threshold. The economic data stood at 48.7, below the estimates of 50.8 and the July publication of 51.3.

• On Tuesday, Bank of England officials warned of significant upside risks from corporate defaults against a backdrop of rising interest rates. The BoE’s current tightening cycle is aggressive, as UK inflation is the highest among developed countries.
• A BoE survey shows that the share of UK non-financial companies experiencing a weak debt service coverage ratio will rise to 50% by the end of the year, from 45% last year.

• The steady decline in manufacturing PMIs indicates that UK businesses are not operating at full capacity due to poor economic prospects.
• The decline in the PMIs has accentuated fears of a recession in the British economy. This has forced operators to bet on a reduction in the maximum interest rates.
• According to a Reuters survey, the BoE will raise interest rates once more on September 21 by 25 basis points (bp), to 5.50%. A minority of economists expect rates to rise further.
• Significant upside risks from corporate delinquencies and weak PMIs are expected to push the UK economy into recession sooner, but BoE policymakers appear helpless and can’t help but raise interest rates as pressures on prices far exceed the desired rate of 2%.
• Market sentiment turned bullish after the US flash PMI came in weaker than expected, indicating the economy is losing resilience.
• Market sentiment could turn cautious as the Jackson Hole Symposium kicks off on Thursday. Federal Reserve (Fed) Chairman Jerome Powell is expected to provide an outlook on inflation, interest rates and the economy.
• The DXY Dollar Index is trading sideways around 103.30 after a sell-off move ahead of the Jackson Hole event. Other than this, investors will focus on durable goods orders data.
• Former St. Louis Fed President James Bullard said Tuesday that the US economy faces new risks from higher growth. This could justify a rise in interest rates by the central bank to keep up the fight against inflation.

Technical Analysis: Pound Rebounds After Formation of Triple Bottom

Sterling consolidates above 1.2700 after a strong rally move as investors await the Jackson Hole Symposium for further action. GBP/USD rallied strongly on Wednesday after forming a triple bottom chart pattern around 1.2613. For a safe bullish reversal, the pair has to overcome the resistance at the round level of 1.2800. The British pound fails to close above the 20 and 50 day exponential moving averages.