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Speculative investors are the most bullish on Pound Sterling since times predating the value-shattering Brexit vote according to the largest snapshot of sentiment prevailing in the foreign exchange markets.

The net number of 'long' contracts on the British Pound held by speculative investors increased by a further 5K into the final week of June to 52K, according to the Commodity Futures Trading Commission (CFTC).

"Speculators' net GBP longs are now at their highest level since July 2014," says Jane Foley, Senior FX Strategist at Rabobank.

According to the CFTC's Commitment of Traders Report this represents a slowdown on the heavy net buying of the Pound seen in the previous week as investors positioned for the Bank of England's interest rate decision that saw a larger-than-expected 50 basis point hike.

Yet, despite investors raising their bullish interest in the Pound to pre-Brexit highs, the Pound actually trended lower in the wake of the BoE decision and through the turn of the month.

Filip Carlsson, Quantitative Strategist at SEB, says the movements in the Pound following the rate hike could be interpreted as a 'buy-the-rumor/sell-the-fact' trade.

Looking ahead, if this view is correct, we could expect the trends that preceded the decision to take hold once more, resulting in further GBP upside.

But the bullish sentiment on Sterling comes with a risk warning: the higher the net long position extends, the greater the risk the currency falls on a 'washout' in positioning.

"The GBP in particular could be vulnerable to profit taking on stretched market longs," says Valentin Marinov, Head of G10 FX Strategy at Crédit Agricole.

Rabobank's Foley says she is of a view that the Pound's upside will be limited by concerns that rising interest rates at the Bank of England look set to enhance the UK's economic growth risks.

Image courtesy of Rabobank.

Rabobank looks for weak economic growth and high inflation to couple with the high national debt and concerns about investment growth over the coming months.

"That said, the drop in the UK's current account deficit (% GDP) should afford the pound some protection meaning that there should be less potential volatility in GBP if recession fears rise," says Foley.

Rabobank forecasts Pound Sterling to end the year a little softer against the Euro around EUR/GBP 0.87.

This would give a Pound to Euro exchange rate of approximately 1.15.

For the Pound to Dollar exchange rate, it is USD direction that is anticipated to matter most. "We expect the currency pair will struggle to extend beyond recent highs and look for the currently pair to end H2 lower in the GBP/USD1.22 region," says Foley.

The Pound nevertheless starts the second half of the year with a bid and some foreign exchange strategists say July could see the UK currency continue to benefit from the UK's elevated interest rates.

UK two-year bond yields are proving an attractive offer for yield-hungry international investors as they remain close to their highest level since 2008, as markets move to price in further interest rate rises at the Bank of England.

"The 2yr Gilt yield surging a huge 150bps in the last two months. It helps explain why the GBP was the top-performing G10 currency in the first half of the year," says Derek Halpenny, Head of Research for Global Markets EMEA at MUFG Ltd.

The Pound was the best-performing major currency of the first half of 2023 as it advanced in value against the entire G10 field amidst a better-than-expected UK economic performance and rising interest rates at the Bank of England.

"We think GBP should outperform as real rates need to move higher," says Michael Cahill, foreign exchange analyst at Goldman Sachs.

A weekly currency research report from strategists at Barclays meanwhile holds a positive stance on the Pound's outlook as elevated UK interest rates are anticipated to underpin global investor demand for UK assets.

"We have turned more positive on the pound in the near term," says Barclays, adding they have turned more positive on the Pound to Euro exchange rate in particular.