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The British Pound can recover against the Euro as Germany's economic growth outlook deteriorates, but further losses against the Dollar can be expected.

This is according to a new analysis from Rabobank - the Dutch-based international lender and investment bank - at the start of the final quarter of 2024.

In a new research note to clients, Jane Foley, Rabobank's Senior FX Strategist, notes a "gloom" has descended over the Pound since mid-July amidst a shift in investor sentiment that means it has now shed the label of 2023's top-performing G10 currency.

Although the Dollar's broad-based advance is difficult to ignore, "the fact that the pound’s performance has dropped to the bottom of the G10 pile recently suggests that domestic UK factors are also contributing to its weak position," says Foley.

The Pound to Dollar exchange rate has fallen 8.0% since its summer high while the Pound to Euro exchange rate has fallen approximately 2.0% from highs registered at the same time.

Analysts are in agreement that the driving force behind the fall has been a drastic recalibration in expectations for the peak in UK interest rates, which at one stage were expected to go as high as 6.5%.

But expectations have fallen back dramatically amidst softer inflation data and indications the UK's labour market is loosening amidst rising unemployment; trends the Bank of England anticipates will continue.

These data and projections prompted the Bank to maintain interest rates at 5.25% in September in a move that resulted in further weakness in the Pound.

"The decision by the BoE to keep rates on hold in September had the effect of knocking lower market expectations regarding the peak and trajectory of Bank rate and removed some support for the pound," says Foley.

Above: GBP performance against G10 peers over the course of the past month.

The UK's economic growth outlook is meanwhile expected to remain soft with economists saying rising interest rates will weigh on activity through 2024.

"Tighter monetary conditions are already having a strong impact on business activity and there is plenty more to come," says Foley. "The rule of thumb is that it takes between 6 to 18 months for interest rate changes to work their way through the system."

It has been estimated that around 2.5 million UK households have, or will be, renegotiating mortgage rates in 2023 and 2024 and feeling the impact of higher interest rates.

A positive takeaway from recent developments is that a lower peak in Bank Rate may suggest a "less bad" outlook for growth than was otherwise the case, says Foley.

Meanwhile, she sees "clouds gathering over Germany" which can be expected to weigh on the Euro going forward, capping upside potential in the Euro-Pound exchange rate.

"We continue to see the risks facing the EUR and GBP as better balanced. EUR/GBP failed to push above the top of its range last week with the 200-day sma in the 0.8708 area remaining intact. We continue to favour selling rallies to this level and see scope for EUR/GBP to move lower within its range on a 3-month view," she adds.

Accordingly, Rabobank's forecasts show Pound-Euro at 1.16 in one month, 1.16 in three months and 1.18 in six months.

The Dollar remains preferred over the foreseeable future owing to the continued outperformance of the U.S. economy on a relative basis.

Rabobank pencils in a Pound-Dollar exchange rate at 1.22 in one month, 1.19 in three months and 1.20 in six months.