GBPUSD, H1
Sterling has given back some of yesterday’s gains, when the currency had rallied strongly against the Dollar and Euro, among other currencies after a spokesman of UK prime minister said that today’s meeting between May and the president of the European Commission, Juncker, will be “significant.” He confirmed that May will looking for a legally binding concession on the Irish backstop. But both the EU’s chief Brexit negotiator, Barnier, and the European Commission President have poured cold water on expectations. The UK currency is now showing a gain of over 3% against the Euro and Yen, and over 2% versus the Dollar, on the year-to-date. This reflects a partial unwinding of its Brexit discount.
There is widespread belief in the market that the UK’s currency continues to trade at a discount of 13-15% in trade-weighted terms compared to levels prevailing ahead of the vote to leave the EU in June 2016. The Economist’s Big Mac index¹ suggests the Pound is 26% undervalued against the US Dollar. As the Economist calculates, a Big Mac costs £3.19 in the UK and $5.58 in the US, which implies an exchange rate of 0.57. Given the difference between this and the actual exchange rate, 0.77, the Pound is 26% undervalued. There does not appear to be scope for a sustained rebound in the Pound until such time that a no-deal Brexit scenario can be concretely ruled out.
A vote is due to take place next Wednesday (27 February). The most probable outcome remains that May and/or parliament, with the help of Brussels, will ensure that a no-deal Brexit scenario doesn’t become a reality. Assuming May is unsuccessful today, there would realistically be only two ways forward: either (i) a cross-party compromise, which will likely cause an irrevocable split in May’s Tory party, (up to four Tory MP’s are said to be “considering their positions”² following 8 opposition Labour MP’s leaving to form the Independent Group) or (ii) a new referendum.
A delay in Brexit is starting to look inevitable.
¹https://en.wikipedia.org/wiki/Big_Mac_Index
²http://www.cityam.com/273535/ken-clarke-warns-fed-up-tory-mps-could-quit-conservative
Stuart Cowell
Head Market Analyst
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