Sterling bulls face reckoning after currency’s best week

BLOOMBERG 

Traders who drove the pound to its best week of the year have a lot riding on the next inflation report, where even a faster-than-expected rate could work against them.
Pricing in the options market suggests investors are already revving up to sell, concerned that something in the economy will eventually break under the weight of ever-higher rates. Positioning is also looking stretched as traders trim the most-bullish wagers in half a decade.
For months, investors have been piling in to lock in juicer returns as accelerating inflation forced the Bank of England to push ahead with its most aggressive tightening drive in a generation. The UK currency rose from a record low in September, to end the week near $1.30.
But the worry is the pound will suffer regardless of how lofty the rate is. And the numbers may mark the point where sterling bulls capitulate.
“Elevated levels of inflation coupled with weaker growth is not necessarily a positive for the currency even if interest rates are going up,” said David Adams, head of G10 FX strategy at Morgan Stanley in London.
UK inflation came in stronger than expected in each of the past four months, fueling wagers the Bank of England would have to keep raising rates faster than its developed-nation peers.
Bets on the BOE’s peak rate hit 6.5% at one point — the highest in 25 years and well above investors’ expectations for how high the Federal
Reserve will push US borrowing costs.
Since then, US inflation came in below forecasts, bolstering the case for an even slower pace of increases. Yet currency strategists and market positioning show pressure building for the pound to go into retreat regardless.