UK, up Brexit creek without a paddle, weighs heavily on the pound

As traders head into Thursday the pound is hogging the limelight in the FX space. Parliament may be in “control” of the Brexit process, but that doesn’t mean that the 650 MPs can agree on a path forward for our split with the EU. None of the eight proposed options for Brexit have secured clear backing from Wednesday’s night’s Commons votes. This weighed heavily on the pound, with GBP/USD dropping by more than 100 pips as the market digested the news. 

The proposal for a Customs Union with the EU was rejected by 272- 264, while a call for a fresh referendum to endorse a Brexit deal was rejected by 295 votes to 268. This is a further sign of how divided the UK’s political class is over Brexit, but the stark reality is that the UK is one day closer to crashing out of the UK without a deal on April 12th. This is what the FX market is scared about, and this is why the pound is tumbling. 

Why the pound’s fate is in Bercow’s hands 

The ebb and flow of the last 2.5 years of Brexit negotiations should now mean that the pendulum swings back in favour of Theresa May’s deal, with the third vote on the deal likely today or tomorrow. However, “meaningful vote 3” is in doubt after the Speaker of the House, John Bercow, said that he may not support Mrs May bringing the same deal to a vote for the third time. Thus, at the time of writing, unless the Speaker backs down, the UK is up Brexit creek without a paddle, and certainly without a deal. 

Why are hedge funds bullish on the pound? 

Could the stark reality of the UK’s position force MP’s from both sides of the divide (apart from the DUP) to vote for Theresa May’s deal later this week? This is what the hedge funds who have recently turned bullish on the pound may be hoping for. It is worth noting that there has been a dramatic fall in the number of speculative short positions in GBP/ USD, according to last week’s CFTC data. The number of short positions fell to -13.8k, down from -36.7k the previous week, and -52.1k a month ago, this is a notable bullish development for the pound. Thus, moneyed investors may see Wednesday night’s decline in the pound as a major buying opportunity.

The UK’s acute political crisis is not abating, and the uncertainty means that is hard to know what will happen tomorrow, never mind by the 12 the April. Theresa May has pledged to resign if her deal gets passed, but if she fails in her third bid to get this through, could she resign sooner? Will the UK be deal-less and leaderless by the end of the week? Baron Rothschild said that investors should buy “when there is blood on the streets”, politically speaking there is a river of blood running through the streets of Westminster right now, which could be a major contrarian signal to buy the pound at these lows, which is why Minerva Analysis is not willing to rule out a recovery ahead of $1.30 for GBP/USD. This recovery could be given a helping hand if the Speaker allows a third vote on Theresa May’s Brexit deal to go ahead Thursday or Friday. GBP/USD sliced through $1.32 on its decline, and at the time of writing support at 1.3150 is starting to fail. From a technical perspective, if sterling falls further, this pair has established support in the $1.3050-$1.3100 area, from its rising 50-day moving average trendline from its start of the year lows. This is one area that could attract buyers and cushion the blow for the pound.

Volatility is here to stay 

At the beginning of the week we had assumed that global stocks would react in a more positive fashion to the Mueller Report, which appeared to rule out Trump collusion with Russia in the 2016 US Presidential elections. However, it turns out that volatility is here to stay, and even soothing words from central bankers is not enough to stop markets from declining. 

Wednesday’s decline in global stocks, the S&P 500 fell more than 1% at one stage, however it clawed back half of the day’s losses by the close, was noteworthy for a few reasons: firstly, stocks are falling even as global bond yields fall to multi-month lows. Secondly, the market fell even though President Trump’s Fed nominee said that he would vote to cut interest rates if he is nominated to the US central bank. Lastly, stocks have fallen broadly this week, suggesting that animal spirits are high as global growth fears persist. Once the market pauses for breath then we could see a reversal, however, the future for stocks is dependent on how Q1 earnings season goes, which will kick off later in April. Thus, any recovery could be short-lived. We would note that, yet again, 2,800 in the S&P 500 remains decent support, a break below 2,780 would be a very negative development for US stocks and may open the door to a further decline back to March’s low at 2,722.

Positive news for Europe’s banks 

European banks were a notable outlier on Wednesday. They benefitted from comments from the head of the ECB who said that the bank could eradicate negative lending rates, which hit European banking profits in recent years. These banks may continue to gain if the plan is actually put into place. 

Turkish lira: avoid at all costs 

Although the pound is the main focus as we head into the end of the week, the NZD dollar and the Turkish lira are also the focus of volatility in the FX market. The NZD fell 1.5% as the RBNZ joined the chorus of global central banks and switched to a dovish sentiment. The Turkish lira is one to avoid right now, as the tripling of the offshore swap rate effectively froze foreign investors out of selling the lira on Wednesday. The paralysis in Turkish money markets, which comes ahead of crucial local elections this weekend where President Erdogan could lose control of Ankara, has been accompanied by a plethora of official interventions to prop up the value of the beleaguered lira after last week’s sharp falls. Although it appears that the lira is heading into another currency crisis, this EM currency is one to avoid in our view, as too much official Turkish intervention makes the next move for the lira difficult to predict. 

Trade idea 

Looking ahead, the rising political risk in the UK and Turkey make gold and the yen - two solid safe havens - look even more attractive in the medium-term.