- Pound sterling had a good week last week and started strong earlier today
- But Brexit-related headlines continue to drive the pound, resulting in substantial volatility
- Rate hike expectations and domestic politics helping, but no match for outcome of Brexit negotiations
Two weeks ago, the pound was weighed down by both politics and economics. Infighting within the Conservative Party was driving rumors of Theresa May’s resignation and economic data showed slowing GDP growth. Today, the picture has reversed after senior Conservative Party leaders have publicly supported May’s leadership while expectations grow for an interest rate hike later this year. Looking at GBP/USD, after the pair fell into overbought conditions in early October, the exchange rate has strengthened from its most recent low above 1.30 to 1.3270 currently. This is shown below:
Pound rebounds with strength, short-term outlook still bullish
Domestic politics and monetary policy helping, Brexit not so much
Despite the appearances of the chart above, last week was far from smooth sailing for the pound. Last Thursday’s news headlines suggesting limited progress following the Brexit negotiations, and this helped to temporarily derail the ongoing pound rally. The currency only recovered after Handelsblatt, a German newspaper, suggested that the EU was open to extending the UK’s membership in the EU by two years. This morning, the pound started strong, but has since fallen sharply following headlines in Bloomberg suggesting that Brexit negotiations are heading for a “catastrophic breakdown unless the European Union signals this week that it will allow talks to move on to trade” according to “a person familiar with the U.K. government's position”.
Hopes for a rate hike and Conservative Party unity no match for Brexit
Earlier this morning, the pound was gaining on rising expectations for another interest rate hike and Theresa May’s visit to Brussels today. Tomorrow, the Office for National Statistics is set to announce UK Consumer Prices for September. With consensus estimates for year-on-year inflation above 3%, the Bank of England has indicated that rate hikes are coming soon (despite the ongoing uncertainty thanks to Brexit). A high CPI reading is likely to raise rate hike expectations, as the Bank is not likely to tolerate high inflation that is at risk of becoming out of control. Moves by other central banks to raise rates, and the Federal Reserve in particular, is also helping the Bank of England’s case.
Meanwhile, Reuters reported last Sunday that May will visit President of the EU commission Juncker and chief negotiator Barnier later today in Brussels. The British Prime Minister is set to meet her counterparts for two 90 minute sessions, and is expected to discuss the UK’s Brexit terms as part of her discussions. As a result, the pound strengthened this morning on rising Brexit deal expectations following the news.
While there are plenty of reasons for the pound to rally in the short-term, ultimately they are no match for the outcome of the Brexit negotiations to be announced once the European Council Meeting concludes this coming Friday. Today was a great case in point, as the currency initially rallied on rate hike expectations and this weekend's news that May was set to travel to Brussels. Yet one rumor that the talks are on the verge of a "catastrophic breakdown" was enough to reverse the rally, causing pound sterling to fall sharply. In recent times, Brexit-related headlines have resulted in fairly volatile trading in the currency, and this looks set to continue.