How to Judge the Strength of Sterling

Secret2ndAccount

On an American TV show they just said that the dollar is at a 2 year high. Today £1=$1.25, but in early 2023 I remember £1 buying only $1.19 so the $ is not at its highest vs the £. The Euro currently seems pretty weak and €1 buys just 83p right now. So is the £ strong? I can’t see a great reason why it would be. What is the best measure to judge the strength of Sterling globally over the long term?

Nebulous2

I'm no expert - so this is my limited, basic understanding. 

Are you familiar with the phrase, basket of currencies? 

Sterling is measured with reference to various countries that we trade with, to produce a currency index. Here's a Bank of England document on a regular rebalancing of their index. 

https://www.bankofengland.co.uk/statistics/sterling-exchange-rate-index

The dollar index heavily weights the euro / dollar relationship, with the dollar / pound being a much smaller component, so weakness in the euro will influence their view on the strength of the dollar much more than the relative strength of the pound. 

I have most of my investments in global trackers, bought in pounds,  and with that dominated by the US stock market that is the relationship I generally watch. A relatively small drop in the pound sees me make a paper gain, without the stock market moving at all. 

For months the pound was very stable against the dollar, at around 1.27. Then the pound rose, and the dollar weakened. That has now reversed and the dollar has taken off again. 

Strong currencies are loved by macho authoritarian leaders, who see it as a measure of their own strength. They are certainly not all positive. The US is extremely indebted and one way to erode that debt is to deflate the currency.  Doing that gives a temporary boost to the whole economy as well, whereas a stronger dollar has the opposite effect. 

Hoenir

In 2007 you could have received over $2 for a £1. Exchange rates fluctuate on long term economic cycles. Best mechanism for tracking the $ is the DXY index. Uses a basket of major currencies. Then there's no fixatation on the £ being either weak or strong. It is what it is due to current US fiscal policy or domestic events. The US $ is used for trade globally and the pricing of commodities so has other influences as well. Simply the other side of the coin as far as the £ is concerned,  

Pat38493

What I can see is that my equity investments went up a fair bit last week, but it looks like this was at least partly down to the pound getting weaker as the US markets are still below their highest recent values.  Small cap doing well in recent weeks.

Secret2ndAccount

Thank you Nebulous, that article is very interesting. Funny that it goes into so much detail as to how the index is calculated but offers not so much as a link to where to find the actual index. Here is the graph for those who are interested:

So we do seem to be on a bit of an upward swing right now. Not sure why.

Hoenir, the problem with DXY is it's too much just $ vs Euro. So DXY would suggest it's a good time to convert my $ into £ because the $ is strong right now. Actually it's a bad time since £ is strong. Unless, of course, we think £ is going to get even stronger.

Lots of things priced in $ or strongly influenced by $, but we are strongly affected by £ too.

michaels

GBP falling against USD makes my global tracker fly. Of course it is a bit illusionary as if GBP stays weak it just means we import an equivalent amount of inflation down the line

LHW99

Secret2ndAccount said:

Thank you Nebulous, that article is very interesting. Funny that it goes into so much detail as to how the index is calculated but offers not so much as a link to where to find the actual index. Here is the graph for those who are interested:

So we do seem to be on a bit of an upward swing right now. Not sure why.

Hoenir, the problem with DXY is it's too much just $ vs Euro. So DXY would suggest it's a good time to convert my $ into £ because the $ is strong right now. Actually it's a bad time since £ is strong. Unless, of course, we think £ is going to get even stronger.

Lots of things priced in $ or strongly influenced by $, but we are strongly affected by £ too.

Not a comment particularly on the subject, but that's a really interesting graph I haven't seen before.

Hoenir

Secret2ndAccount said:

Hoenir, the problem with DXY is it's too much just $ vs Euro. So DXY would suggest it's a good time to convert my $ into £ because the $ is strong right now. Actually it's a bad time since £ is strong. Unless, of course, we think £ is going to get even stronger.

DXY doesn't suggest anything. What it reflects is the broader movement against other currencies. Which tend to move in a similar direction. Against the strength / weakness of the US $.  The old saying. When the US sneezes the rest of the world catches a cold.