E-mail:    

CURRENCY ANALYSIS

GBP-Sterling Downside Risks

Currency Analysis, GBP-Pound-Sterling, GBP-analysis, GBP-Sterling, Downside Risks, GBP, fx trader, forex

Brexit negotiations are unlikely to be easy: downside risks for sterling are still there.

In the first part of 2017 the pound remained stable within the range outlined in the closing quarter of 2016, with fluctuations concentrated in the GBP/USD 1.20-1.25 range (except for a low of GBP/USD 1.19 and a high of GBP/USD 1.27) against the dollar, and in the EUR/GBP 0.84-0.88 against the euro (Fig. A). Therefore, sterling’s movements have levelled off in the medium-low end of the range observed after last June’s referendum on EU membership – which is compatible with the persistent risks tied to Brexit – while at the same time avoiding the setting of new lows – which reflects the ongoing flow of positive economic data from the UK economy, in terms of growth in particular.

The relation between the flow of data and the trend of the exchange rate deserves particular attention, as it could prove somewhat deceptive, in particular when considering the week following the March FOMC. In the past few days, sterling appreciated not only on the widespread post-FOMC retreat of the dollar, but also on a string of data releases on the UK economy which generally surprised on the upside. On closer inspection, the pound’s reaction may have been amplified by exceptionally large speculative short positions (new long-term high, Fig. B) which built up when the Brexit bill was returned by the House of Lords to the House of Commons following the amendments proposed by the former. The amendments called on the government to guarantee the rights of EU citizens legally living in the United Kingdom and, most importantly, that the final outcome of negotiations with the EU be voted by MPs, with the specific aim of avoiding an exit without an agreement. This is a very delicate aspect, which, in waiting for the response of the Commons, which ultimately rejected the amendments, may explain the build-up of new speculative short positions, testifying to the risks effectively posed by Brexit, and which may be sometimes overlooked when considering only the data so far available.

Currency Analysis, GBP-Pound-Sterling, GBP-analysis, GBP-Sterling, Downside Risks, GBP, fx trader, forex fig-aCurrency Analysis, GBP-Pound-Sterling, GBP-analysis, GBP-Sterling, Downside Risks, GBP, fx trader, forex fig-b

Source: Thomson Reuters-Datastream

For what concerns the Bank of England’s assessment of the scenario, the February Inflation Report contained a significant upward revision of growth projections for this year (compared to November), from 1.4% to 2.0% (Fig. C), which would imply an acceleration from 1.8% last year, a markedly positive outlook when considering that the actual Brexit process is already underway: the British government officially notified its intention to exit the EU, as per Article 50 of the Lisbon Treaty, on 29 March. For the next two years, on the other hand, the BoE has confirmed its slowdown scenario – entirely due to Brexit – with projected growth at 1.6% both in 2018 (revised up from 1.5%) and 2019 (unchanged).

Currency Analysis, GBP-Pound-Sterling, GBP-analysis, GBP-Sterling, Downside Risks, GBP, fx trader, forex fig-cCurrency Analysis, GBP-Pound-Sterling, GBP-analysis, GBP-Sterling, Downside Risks, GBP, fx trader, forex fig-d

Source: Bank of England

Next>>