Pound/Euro: Cheap Money Getting Cheaper

11/11/08 03:18PM EST
We’ve been bearish on the UK and we are currently short the EWU (iShares United Kingdom) as a proxy for this thesis. The UK has one of the worst balance sheets in Europe and its economic data continues to indicate an economy that is in dire straits. Late last week we posted on British housing numbers that declined 15% y-o-y and industrial production, which contracted again in August.

In an attempt to jump start the economy, the BOE cute benchmark rates by 150 bps to take rates to the lowest level since Winston Churchill was Prime Minister. While cutting interest rates should increase money flow and hopefully revive the UK economy in time, there are, obviously, very severe implications for currency valuation.

As outlined below, the Pound as fallen to an all time low versus the Euro based on an interest rate differential that favors selling Pounds versus buying Euros. Given the extremism of the recent move by the BOE and continuing issues with the UK economy, a recovery in the Pound versus the Euro in the intermediate term seems highly unlikely and, if anything, we should expect to see continued devaluation as cheap money continues to get cheaper.

Andrew Barber
Director
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