Goldman Sachs sees scope for a Pound Sterling recovery as bearish positioning becomes stretched, with weak US data a possible catalyst.
Investors betting against the British Pound could help drive its next recovery if disappointing US data prompts them to reverse those positions, according to Goldman Sachs.
Pound to Dollar (GBP/USD): 1.323954 (+0.31%)
Euro to Dollar (EUR/USD): 1.125224 (+0.03%)
The bank’s 30 September analysis found Sterling and the Euro in stretched-short territory, leaving both currencies vulnerable to a rebound over the following several weeks.
“As long as we remain in a backdrop of low FX volatility, investors should be looking to fade extreme positioning.”
Its argument concerns the potential unwinding of crowded bearish bets, rather than a numerical GBP/USD target.
Friday’s US jobs report subsequently delivered the kind of disappointment that could challenge Dollar demand, although Goldman’s research cautions against assuming every payroll miss produces a large currency reversal.
What makes Sterling positioning stretched?
Goldman measures speculative futures positions against their highest and lowest levels over a rolling three-year period.
Its Sentiment Index runs from zero to 100, with readings below 10 indicating positioning close to the bearish end of that historical range.
Both GBP and EUR were below that threshold in the data used for the report.
A short position benefits when a currency falls, but closing it requires buying the currency back, potentially adding to a recovery already under way.
Goldman explains how that can magnify the response when economic news challenges the prevailing view.
“In combination with our results above, this suggests additional vulnerability around data surprises when positioning is stretched short as shifts in positioning may amplify the initial FX response.”
“This may partly reflect short-covering dynamics which can reinforce the initial reaction to negative data surprises and trigger outsized moves.”
The bank also finds a stronger contrarian signal in leveraged-fund Sterling positioning than in the broader speculative measure, although results vary across currencies and investor groups.
Weak US jobs data brings the argument into focus
US employers added 29,000 jobs in September, against the 90,000 consensus cited in ING’s post-release analysis, while unemployment rose to 4.2% and annual wage growth slowed to 3%.
Our Friday afternoon Dollar update recorded GBP/USD around 1.3256, approximately 0.43% higher on the day following the release.
That move was consistent with Goldman’s directional argument, but does not establish how much buying came from investors closing short positions.
The bank’s payroll-specific research contains an important qualification.
“Unlike the broader MAP results, NFP surprises do not appear to drive larger FX reactions when they run counter to stretched positioning.”
MAP refers to Goldman’s broader economic data-surprise measure, while NFP is the monthly nonfarm payrolls report.
A severe jobs disappointment can damage global risk appetite and weigh on Sterling, while stronger details beneath a weak headline can support the Dollar.
Goldman therefore places more weight on the opportunity over several weeks than on a guaranteed response to one release.
Its futures-based indicators also cover only part of the currency market and move more slowly than options-based measures.
“As with other positioning metrics though, we would stress that the overall explanatory power is still relatively low, and therefore see CFTC positioning as just one of several potential inputs into investment and trading decisions.”
