The OIS measure suggests markets are fully priced in for a 100bp rate cut while the SONIA measure has 125 bps worth of easing fully priced in. Nevertheless, traders appear more in favour of the OIS measure.

"It's difficult to say whether FX markets have priced in a 100bp rate cut from the BOE on Friday, but I would say that 50 to 100 bps is in the price, and 100 is not fully discounted," according to one trader in London.

"There are all kinds of uncertainties. It's not clear which direction the pound will go on a 100bp rate cut, but the reaction will probably be sterling negative," he said.

The relationship between FX and equities appears to be stronger than interest rates, he noted, saying that the euro/sterling cross is more unclear as both economies race to the bottom.

"There are days where you could have told me the day's news with absolute certainty, and I still would have gotten the FX moves wrong," the trader said.

John Hydeskov, foreign exchange strategist at Danksebank, believes the euro/sterling cross has some upside, with a one-month target for the cross at 0.88. "There are many reasons for BOE to cut rates 100 bps and even a risk that they could cut another 150 bps," he said.

Hydeskov expects the euro/sterling cross to rise to 0.87 on a 100bp rate cut. However, he warns that in the longer term, markets may begin to reward action, with the ECB cutting rates much more slowly than the BOE. "We think that on a longer-term basis, the sterling is meaningfully undervalued against euro," he said.

Nevertheless, Hydeskov agrees that the current mantra of foreign exchange remains the focus of equity markets and commodity prices, rather than the historical movements in relative interest rates.

When asked about the pound versus the U.S. dollar, Hydeskov said that everybody is dollar-bullish, and that at the moment uncertainty regarding the cable is high. "1.40 could be seen in next month or two, and repatriation flows should continue well into 2009," he said.

In fixed income markets, one trader in London believes short-sterling contracts are looking for a cut smaller than 100 bps, pricing in about 80 bps worth of easing. December contracts could move "one-for-one" with whatever the central bank does, he said, while March/09 contracts could rally about five bps on a 100bp rate cut.

However, he warns that longer-term two-year gilts probably have another 50 to 100 basis points to lose before peaking in the current interest rate cycle.

Nicole Elliott, strategist from Mizuho, said a full percentage cut from the BOE won't have much impact on fixed income markets.

She said UK bond yields will remain low as fear continues to rule markets, adding that the curve will continue to flatten as investors move down the curve.

"Treasury bill rates are just collapsing. Two-years are yielding 1.7% so we are already below whatever the base rate would be tomorrow," she said. "The actually rates people are paying if they need money have no relation to where treasury or official interest rates are."

By Erik Kevin Franco, This email address is being protected from spam bots, you need Javascript enabled to view it , edited by Nancy Girgis, This email address is being protected from spam bots, you need Javascript enabled to view it

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