Fundamental Comment

UK pound defied Brexit in 2017, can it perform as well in 2018?

563

Sterling was battered during the first seven months or so, after the June 2016 referendum decision. Shortly before the vote GPB/USD reached a yearly high of 1.50, by January 2017 the major currency pair, which we often refer to as “cable”, plunged through 1.20, briefly touching 1.19, down circa 25%. Currently cable is at 1.35, an 11% fall from the 2016 peak, but marking a considerable recovery from the post referendum low point of 1.19.

EUR/GPB was 0.76 just prior to the June 23rd polling day, by October 2016 it reclaimed 0.92, a level not seen since 2009. And then in September 2017 0.93 was breached, setting the new eight year high. At the time of writing, January 11th 2018, EUR/GBP has once again just moved up through the 89.00 handle, representing a 17% fall for sterling from the June 2016 level.

Now if we draw up monthly charts of the U.K. pound versus most of its other peers we’ll see a similar pattern replicated to that of cable; a major sell off throughout 2016, with the currency making a considerable recovery in 2017. The Brexit shock travelled around the globe, from Australia through to Japan, over to the USA, the majority of people you’d meet from these countries would ask the same question; “why are you guys leaving Europe, it doesn’t make sense?”

Many analysts, from whatever country, have moved past the shock stage and have therefore stopped asking the question, many are now even considering that sterling may have been oversold. Indeed, several leading analysts from major investment banks, are citing that 1.40 can’t be ruled out as a target high for GPB/USD this year, considering some were predicting 1.15 this time last year it illustrates a complete turnaround in opinion and also provides evidence of what a precarious occupation long range forecasting is. 


Article 50, the reality sets in

The reality has now set in; after delivering article 50, the U.K. has informed the E.U. that it’s leaving. And rather counter intuitively, since that ultimatum delivery the pound has recovered versus many of its peers, with one notable exception, it’s hardly recovered versus the currency of its main trading partner, the Eurozone. The recovery appeared to be based on confirmation and decisiveness and we all know that the millions of contributors who make up our markets detest indecision. Therefore, even though the compelling and overwhelming evidence exists that Brexit is bad for Britain, us traders and investors who move markets, preferred to know where we stood.

The progress made during 2017 by the Brexit Britain team was slow and tortuous. The key areas for discussion regarding: residency rights of E.U. nationals already in the U.K., no border in Ireland and the legal requirement to pay the exit bill, took all year to clumsily negotiate, and even now the agreement appears to be inconclusive. But the agreement did allow the U.K. team to move onto the far more difficult area of trade talks, which is the time when the value of sterling versus its peers may once again come under pressure.

The U.K. wants a bespoke deal, however, no such possibility exists according to many EU officials, as various documents lay out the options for the U.K. From the Norway model, which is tantamount to not bothering to exit at all, right through to WTO trading rules (hard Brexit) there’s a menu of choices for Britain to take. There is no opportunity for a tailor made arrangement, and with the clock ticking down there simply isn’t the time to arrange one. Similarly, asking for a transition period is not guaranteed to be accepted.

The U.K.’s two major trading partners are the US and the EU (and Eurozone), in some ways it’s a mistake to judge that the pound made a significant recovery in 2017, as that recovery was really centered on cable, with dollar weakness being the key issue, as opposed to pound strength. The recovery versus the euro was weak and as we’ve witnessed in the first full week of forex trading in 2018, sterling has been highly sensitive to Brexit news. The pound fell as Michel Barnier questioned Britain’s understanding of the process, it also fell as leading European bankers instructed the U.K. that no bespoke banking deal would take place.

Cable traders may be in for a bumpy ride this year, and it may get rougher as the March 2019 exit date approaches. The rise and fall of the pound versus its peers may become far more violent than the 2017 changes. It’s a relatively simple equation that requires little in the way of in depth analysis; a soft Brexit = higher pound, hard Brexit = lower pound. If the negotiations appear to be going well then the pound will rise, if not the pound will fall. However, it’s fair to state that the Brexit Brian negotiation team got away with dragging their heels and accomplishing very little in 2017. They won’t have that luxury in 2018. Before we know it March will be upon us, then we’re only one calendar year away from Brexit.

 

Content credit: FXCC Forex Blog

Share Artical