The British pound has been plummeting since the UK voted to leave the European Union in June, and has become one of the worst performing currencies in the world this year.
While many banks such as HSBC and Deutsche Bank expect the pound to continue crashing, UBS believes the British currency will "stabilize and recover over the next six to 12 months," and predicted that the pound will head up to $1.36 in twelve months' time. The average price in the first six months of 2016 — before the Brexit effect took hold — was $1.43.
In a memo, UBS economist Dean Turner, cites four main reasons the pound will recover in 2017. First, Turner says markets have overreacted; arguing that markets seem to be pricing for a “very hard Brexit” and a sharp deterioration in the UK economy, but sees both outcomes as unlikely.
The second reason is that a cheap pound will stop traders from shorting it. UBS believes that the pound is now undervalued. While that discount is unlikely to end in the near term, investors at current levels will start thinking twice before they taking out a new short position on sterling.
The third reason is that the cheaper pound makes UK assets such as property, companies and bonds are becoming more affordable to international investors. A pick-up in demand will, in turn, support the currency.
The fourth and final reason is that a weaker currency will shrink the UK’s current account deficit. The pound’s sharp fall is likely to reduce the UK’s trade gap, which has been running at a near record level. A reduced deficit should remove another reason for investors to sell the currency.