GBP/EUR has appreciated this weekAs EUR/USD falls faster than GBP/USDBut any corrective EUR/USD rally to pressure GBP/EUR

Image © Pound Sterling Live

The Pound to Euro exchange rate (GBP/EUR) remains well supported near current levels as investors grow increasingly cautious of the Eurozone's economic outlook, however there is a risk that a corrective rebound in the EUR/USD puts GBP/EUR back under pressure.

Surging European gas prices and a rapid lowering of expectations for future European Central Bank (ECB) rate hikes are proving the fundamental narrative underpinning the Euro's sell-off at the present time.

But the UK is also suffering a similar narrative and this explains the sell-off in the Pound-Dollar exchange rate which has now ducked below 1.20 and looks as though it wants to enter the 1.18s.

"Avoid European currencies at all costs right now. The big negative supply shock is playing out," says Viraj Patel, Macro Strategist at Vanda Research.

An important point to make however is the negative investor stance towards Pound Sterling has been in place for many months now and until recently the Euro was benefiting from a benign investor sentiment towards the Eurozone.

CFTC positioning data has reflected this pessimism via a long running net short position on Pound Sterling, consistent with the UK currency being one of 2022's worst performers.

The negativity is therefore largely 'in the price' for the Pound and it now looks to be the turn of the Euro to suffer a sentiment reappraisal. (Set your FX rate alert here).

Above: Daily GBP/EUR chart showing recent resilience.

"Trading is about the relative not absolute. Ton of bad news is priced for GBP already," says Arno Venter, Market Analyst at Financial Source.

"If EU data suggests narrowing of growth differentials (I think it does) that should be EUR/GBP negative," he adds.

This theme also holds sway for the EUR vs. the USD: the U.S. economy is not suffering the same energy shock as Europe is and its growth outlook is therefore better.

This is why the EUR/USD exchange rate is under significant pressure and analysts are fast turning their eyes to a looming test of parity.

Although the GBP/USD exchange rate is also struggling, having gone below 1.20 and is now testing the 1.18s, the scale of the selloff is actually less severe than that in EUR/USD.

This in turn results in a supportive cross-currency effect on GBP/EUR.

In short, the GBP/EUR can be seen as a mechanical function of GBP/USD and EUR/USD, all else being equal.

But those watching GBP/EUR should beware that when the Euro and Pound engage a relief rally against the Dollar it will likely favour the Euro.

If the EUR/USD is more oversold than GBP/USD it stands the Euro's rebound will be stronger.

Therefore if a relief rally shapes up soon, as it almost certainly will, GBP/EUR could come under pressure again.