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Morgan Stanley: Brace for euro-sterling parity

The pound will continue to slide against the euro and the two currencies will reach parity by the first quarter of 2018, as a combination of a strengthening eurozone and sagging UK data weighs on sterling, analysts at Morgan Stanley predict.

Currency analysts at the bank say the pound will fall further this year as a result of Brexit-related turbulence, and the cross will hit parity by 2018. It predicts that the euro will trade at £1.02 by the end of the first quarter of the new year. Right now, it’s at £0.9075.

They said this was likely to come as pension funds and insurance companies reverse their “historically low” exposure to the euro as a result of improving fundamentals in the eurozone. Investors are likely to ramp up their purchases of euro-denominated assets without hedging, they predict.

The bank added that Switzerland was likely to “emerge as a main buyer of euros” as it seeks to ensure the franc does not strengthen too much after a recent bout of haven buying. (It also thinks the euro will reach SFr1.25 by next year, from around SFr1.13 now.)

“Traditionally, Switzerland has devoted its foreign surpluses to euro-denominated equities and direct investment, turning the franc into an anti-cyclical currency, rallying when the state of the European economy is poor and weakening when the outlook is better,” said the analysts.

They added that the strengthening euro “will be only partly driven by our bullish euro outlook”, as the pound “is likely to weaken in its own right, driven by weak economic performance, low real yields and increasing political risks.”

The analysts also reeled off a list of reasons for the expected weaker UK economy, which make for grim reading. Those who were hoping the pound might recover in time for next year’s holidays, look away now:

The household sector has increased spending, primarily funded by unsecured lending, which is unsustainable. A consolidation of the household balance sheet, coupled with negative real wage growth, may reduce consumption, which has been propping up growth so far. Brexit uncertainty may also weigh on business investment, which will weaken the already lackluster productivity growth outlook, suggesting real rates staying low. Meanwhile, sterling weakness did not boost net export growth in a way that is comparable to previous periods of currency weakness.

(Image: Morgan Stanley)