UK: More worrying signs for the leave campaign – MUFG

Lee Hardman, Currency Analyst at MUFG, notes that the pound strengthened sharply again yesterday especially against the euro as the perceived risk of Brexit continues to decline.

Key Quotes

“EUR/GBP has now retraced around two thirds of its move higher from earlier this year falling towards the 0.7600-level after peaking at just over the 0.8100-level in April. It clearly highlights that after the pound’s recent rebound, the market is now pricing in a more modest Brexit risk premium which is likely to result in a more modest initial bounce higher should the UK vote to remain within the EU on the 23rd June.

The latest ORB phone poll released yesterday added to evidence signalling that public support for the UK to remain within the EU is strengthening. The ORB poll revealed that 57% of Conservative voters now say they will vote to remain compared to just 34% in March. Even among the over 65’s, 52% of voters are now backing remain compared to 34% in March as well.

The performance of the pound beyond the referendum result would then switch back to being driven by economic fundamentals. For the pound to remain on stronger footing following a vote to remain, it will require building evidence that the UK economy has regained a firmer footing after slowing more materially early this year.

At the current juncture, we are prepared to give the benefit of doubt that heightened uncertainty ahead of the referendum is the main driver of recent weaker growth which should rebound in the second half of the year as uncertainty eases. However, if weaker growth continues after the referendum we would have to reassess our more favourable outlook for the pound.

We believe that there is an even lower to non-existent Brexit risk premium priced into the euro. We do not subscribe to the view that the euro would also bounce if Brexit is avoided although it removes the risk of a sharper decline. The euro would likely come under downward pressure against both the pound and US dollar. If the UK votes to remain it would give the green light for the Fed to resume rate hikes in July assuming that they haven’t already raised rates before the referendum in June.”