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U.K. growth data are increasingly pointing to a softer economic backdrop, reinforcing the case for a long U.K. gilts and short pound trade, according to BCA Research.
U.K. growth data are increasingly pointing to a softer economic backdrop, reinforcing the case for a long U.K. gilts and short pound trade, according to BCA Research.
The latest monthly GDP figures underscored the loss of momentum, with output contracting 0.1% month-on-month in October following a similar decline in September, missing market expectations.
The slowdown was broad-based. Manufacturing failed to rebound as anticipated after the Jaguar Land Rover cyberattack, while both services and construction declined by more than expected.
“Leading U.K. indicators have signaled a slowdown for some time,” BCA said in a note.
The labor market continues to weaken, marked by rising unemployment and falling employment, while tight financial conditions and sluggish global growth are weighing on domestic activity.
Although the combination of sticky inflation and slowing growth points to a stagflationary mix, BCA stressed that inflation is “a lagging indicator.”
“As the labor market weakens, wage growth and services inflation should continue to ease, paving the way for a more dovish BoE,” the firm added.
Against this backdrop, BCA reiterates its preference to stay overweight on U.K. gilts and short sterling, particularly versus the euro. “Long U.K. gilts remain our Global Fixed Income colleagues’ highest-conviction view,” BCA said.
While the U.K. equity market is already discounting this weakness, the pound is not, the firm said. As such, BCA forex (FX) strategists remain long EUR/GBP.
BCA also outlined a cautious view on the Swiss franc, arguing it is increasingly attractive as a funding currency as deflationary pressures build.
Swiss inflation has surprised on the downside for several months, lowering the Swiss National Bank’s threshold for easing even as policy rates remain unchanged.
BCA said prices are set to flirt with deflation in the coming quarters, leaving policy exposed to negative growth surprises or further franc strength.
In that context, the firm expects FX intervention to come before rate cuts and sees scope to stay long EUR/CHF and JPY/CHF, with the SNB remaining sensitive to renewed appreciation in the franc.