By Nell Mackenzie
LONDON (Reuters) - In the first half of September bets against sterling posted the biggest two-week rise since 2013, a sign that hedge funds may have ramped up short positions just as Liz Truss became Britain's new Prime Minister.
According to Vanda Research, which uses data from the U.S. Commodity Futures Trading Commission (CFTC), short contracts of GBP/USD made by leveraged funds in the first two weeks of September jumped 17 percentage points.
Sterling hit a record low on Monday against the dollar, and British bond prices collapsed as fears mounted over the new government's fiscal plan, unleashing calls for an emergency Bank of England rate hike to restore confidence.
On Friday, Truss' finance minister Kwasi Kwarteng scrapped the top rate of income tax and cancelled a planned rise in corporate taxes - on top of an expensive plan to subsidise energy bills.
Speculators have trimmed their net short position on the British pound to 54,843 contracts last week valued at $3.9 billion, down from a previous net short position of 68,086 contracts, figures from the CFTC show. Truss took over as prime minister on Sept. 6.
With the U.S. dollar soaring in 2022 as the Federal Reserve hiked rates faster than its peers, investors have been betting against most major currencies including the pound. CFTC data showed speculators have maintained short positions against the pound every week since February.
The $3.9 billion value of speculators' most recent net short sterling position may seem small in a foreign exchange market that sees trillions of dollars of trading each day. But the FX market is highly opaque and CFTC data is viewed as a good window into wider market positioning.
Louis Gargour, the chief investment officer and managing partner of the $550 million hedge fund, LNG Capital, said that serious money began shorting the British currency in July.
Gargour has had positions in the pound but because of UK marketing regulations could not confirm if he was short.
Truss was known for policies that would fall into direct conflict with the Bank of England's efforts to control inflation and tighten fiscal policy, said Gargour.
"Then, the Truss tax breaks came in which basically say we're going to massively stimulate the economy, increase inflation and incur more debt, rendering any BoE rate hike ineffectual. And, she's already said there are more to come. For the market – that is just an easy short," said Gargour.
An intervention by the Bank of England might not even deter bearish market sentiment, said Viraj Patel, a global macro strategist at Vanda Research.
"Does a 100 basis point hike today really fix anything? We doubt it if the UK government continues on a fiscally irresponsible path," said Patel.
As long as the government declines to work hand in hand with the Bank of England, LNG Capital's Gargour said it will be a "straight shot to a 95-96 cent pound to the dollar."
The BoE said on Monday the bank would not hesitate to raise rates to meet its 2% inflation target, and that it was closely watching financial markets.
Britain's finance ministry said Kwarteng would set a "Medium-Term Fiscal Plan" on Nov. 23, alongside growth and borrowing forecasts from the Office for Budget Responsibility.