Forecasting the sterling's fall

America's elite banks are expecting the sterling to plummet next year after its meteoric rise to near $2 this autumn, believing Britain's growth surge to be well past its sell-by-date.

Goldman Sach has advised sophisticated investors take out a "short" position against the pound on the derivatives markets as its top trade for 2007, a bet that the currency will fall.

"The UK remains the largest current account deficit country in Western Europe, with a substantially overvalued currency - about 13 per cent on a trade-weighted basis," said the bank in a client note.

Jens Nordvig, a Goldman Sachs currency strategist, said the credit cycle was turning as the Bank of England finished raising rates, ending the yield premium over European investments that has made UK bonds so attractive. "There are quite a few risks in Britain, especially in the housing market, but this is more a case of Europe doing better rather than the UK falling off a cliff," he said.

Bearish

Lehman Brothers is even more bearish on Britain, warning in its global outlook for 2007 that the glory days of UK dynamism are drawing to a close. It predicted that Britain's FTSE 100 would lag the other major stock markets in 2007, calling for a cut in the UK weighting of global equities from 10 per cent to seven per cent.

The US investment bank also warned that the odds of an outright recession in the US had shortened to 4/1, though it is still betting that the housing slide will bottom out soon enough to ensure a softish "bumpy" landing.

Alan Castle, Lehman's UK economist, said the pound would fall to $1.82 in 2007 and to $1.68 by the end of 2008 as UK Inc gradually goes out of favour.

"I'm not saying that things will be terrible, but they will feel much worse," he said. The property boom may continue for a few more months as buyers exploit interest-only mortgages and lax credit offers, but would sputter out in the second half of 2007. He expects interest rates to peak at 5.25 per cent early next year.

"The surprise is that the pound has been so strong. Current account deficits matter over time and we're worried that Britain's deficit could widen to 4 per cent of GDP in 2008," he said.

Sterling has a been favourite choice for global central banks switching reserves out of dollars over the last two years but Lehman Brothers said the effect was "starting to fade". Fresh data from the Office for National Statistics show private investors are now the main foreign buyers of UK gilts.