Pound dives deeper as no-deal Brexit worries compound

Sterling hits 28-month low against dollar, as UK ministers say working assumption is now EU departure without accord.

    With the United Kingdom currency dipping, Prime Minister Boris Johnson promises to to leave the EU irrespective of whether there is a Brexit deal [Jeff J Mitchell/Reuters]
    With the United Kingdom currency dipping, Prime Minister Boris Johnson promises to to leave the EU irrespective of whether there is a Brexit deal [Jeff J Mitchell/Reuters]

    The pound sterling sunk more than one percent to a 28-month low and was valued at $1.23 on Monday, as more investors scrambled to factor in the growing risk of a no-deal Brexit and the chance that new British Prime Minister Boris Johnson will call an early election in the United Kingdom.

    A still-deeper fall in sterling remains on the cards, as all metrics show that a disorderly UK exit from the European Union is far from being fully priced in.

    Johnson repeated to British media that - while he wanted to secure a new trade deal - the UK was going to leave the EU on October 31 with or without an agreement.

    Against the dollar, sterling has now lost seven percent of its value since May. On Monday, it fell 1.1 percent to 91 pence per euro.

    "Political risk is finally getting priced," said Claire Dissaux, head of global economics and strategy at Millenium Global Investments. "There is a realisation the market had not fully priced the increased chances of a no-deal Brexit."

    "The appointment of the cabinet [last week] showed that the default policy of this government is to leave with no deal," she said.

    Until recently, most investors had believed a last-minute agreement would be reached, but the war of words between Britain and the EU is escalating - with Ireland scolding Johnson's approach as "unhelpful".

    The British government said on Monday that it assumed there would be a no-deal Brexit because a "stubborn" EU was refusing to renegotiate a divorce with the UK.

    This followed comments by senior ministers who said on Sunday that the UK government believes the EU will not renegotiate its withdrawal deal, so the UK was ramping up preparations to leave in three months without transition agreements in place.

    The 27 other EU members have repeatedly said publicly and privately that the divorce settlement is not up for barter.

    'Remain under pressure'

    Meanwhile, many investors say a no-deal Brexit could tip Britain's economy into a recession.

    Adding to the pound's travails is the possibility that Johnson would call an early parliamentary election. His Conservative Party has risen in opinion polls since he became leader, according to YouGov, which showed support for the party at 31 percent, well above that of the opposition Labour Party.

    An election win could allow Johnson to overcome parliament's opposition to a no-deal Brexit.

    "With the new government rhetoric on the hard Brexit firming and the rising likelihood of early elections, sterling should remain under pressure and ahead towards 95 pence, and below $1.20 levels over the coming months," ING analysts told clients.

    The sterling selloff has sent investors rushing for protection against more swings in the currency around the time of Britain's expected departure.

    There is also growing interest in shorting the pound - betting it will fall - with data showing that hedge funds increased net short sterling positions to $6.11bn in the week to July 23. This was the highest in nearly a year.

    Essentially, analysts say the currency does not yet fully price in a no-deal Brexit.

    Price action suggests the FX options market is not convinced the threat of a no-deal Brexit is as great as the British government makes it out to be. The price of options expiring after the October 31 deadline is elevated, but still below those seen before the initial March 29 deadline.

    Some banks have even forecast the pound at parity against the euro and the dollar should a no-deal Brexit come to pass.

    BMO Capital Markets reckons the pound will hit $1.16 over the next three months.

    Neil Jones, head of European hedge fund sales at Mizuho, said FX markets had factored in about a 20 percent chance of no-deal Brexit but were starting to price in a 50 percent chance.

    "Sterling/dollar will continue a lower trend in reaction to weekend UK political developments," he said.

    On Thursday, the Bank of England is expected to keep interest rates on hold but may strike a more dovish tone given the rising risk of a no-deal Brexit.

    Money markets are now fully pricing in a rate cut before end of January 2020, which is further weighing on the value of the pound.

    SOURCE: Reuters news agency