The Pound to Euro (GBP/EUR) exchange rate hit 12-week highs above 1.1560 this week before a retreat to 1.1510.
MUFG does not expect that the Pound will be able to hold gains and expects losses to 1.11 by the end of 2026 as the UK currency loses yield support.
Monetary policy and Bank of England decisions will inevitably be a key element.
Markets are pricing in less than two rate cuts for 2026, but MUFG expects that the BoE will cut rates at least twice by August.
The bank expects that wages growth will slow further which will help curb services-sector inflation and help convince a majority on the committee that further cuts are justified.
As far as the ECB is concerned, MUFG has shifted its position and does not expect any further rate cuts which will mean that overall yield spreads will move against the Pound.
The bank also expects political and fiscal policies will be important. Prime Minister Starmer remains very unpopular nationally while there are important reservations within the Labour Party.
If expectations of a heavy defeat in local elections continue, there will be the potential for a leadership challenge which will trigger fresh reservations surrounding fiscal policy which would risk renewed selling in UK bonds.
