GBP: Best foot forward? – Rabobank

Jane Foley, Research Analyst at Rabobank, suggests that even if the October flash crash in the pound is ignored, sterling has managed a near 7% recovery vs. the EUR since last month’s lows. 

Key Quotes

“PM May yesterday designed her CBI conference speech to be an olive branch to business and this was taken well by the pound.  At the Oct conservative party conference not only did the PM spook sterling by taking a hard Brexit stance, but signs that she was prepared to adopt a more interventionist style of government were also currency negative.”

“The trigger for this month’s recovery in the pound initially came from the November 3 ruling from the High Court that parliament, and not the government, should decide when article 50 is triggered.  Insofar as a majority of PM’s supported the ‘Remain’ camp in the UK’s June 23 referendum on EU membership, the High Court ruling was taken by the market as a sign that a ‘hard’ Brexit may be diluted.  That said, it is also likely that a parliamentary debate on the terms of Brexit will delay the start of the exit process and the prolonging of uncertainty could counter any recovery in business sentiment.  The better tone of GBP this month has also been associated with hopes that President-elect Trump may favour a US/UK trade deal in spite of his isolationist stance.”

“The start of last month marked a sea change in terms of focus for sterling.  July, August and September were marked by pockets of recovery which were triggered by better than expected UK economic data.  The huge monetary stimulus implied by the sharp drop in the value of the pound following the referendum result, coupled with the policy easing announced by the BoE on August 4 has served some sectors well.   Cheap money combined with high levels of employment has also supported consumption levels.  In early October, however, the market became less interested in the publication of economic data and more focused on the UK’s likely post-Brexit relationship with the EU.  Sterling adopted an almost binary relationship with political events dependent on whether they were perceived to lead to a ‘hard’ or ‘soft’ Brexit.”

“Given that the outcome of the Supreme Court’s decision on whether the government or parliament can trigger Brexit is not expected before early January, UK politics may offer limited direction for EUR/GBP in the coming weeks.  By contrast, the EUR could be heavily influenced by politics and specifically the outcome of Italy’s December 4 referendum on constitutional reform.”

“On a worst case scenario for the EUR a ‘no’ vote would be followed by the resignation of PM Renzi, elections would be called and power could be grabbed by anti-EMU opposition parties.  That said, there is no legal requirement for Renzi to step down on a ‘no’ vote, though he has stated that he could not scrape by as PM under such circumstances.  Given the risks associated with Italy’s referendum we would expect the EUR to be squeezed higher by relief on any ‘yes’ vote on December 4 and from there its position is likely to be strongly influenced by opinion polls regarding the elections in the Netherlands and France in the spring.   To date opinion polls have suggested that France’s far-right candidate Le Pen will not win the second round of the French Presidential and (assuming Italy steers itself away from government collapse) as long as this situation persists, the EUR should retain its composure. The recent lows near EUR/GBP0.8490 is likely to act as support.”