Brexit developments could support the pound longer term

Thought of the day

by Chief Investment Office 09 Jul 2018

UK Brexit secretary David Davis has resigned, following cabinet agreement on Prime Minister Theresa May’s plan to align her cabinet to a "soft" Brexit, which includes a customs partnership on goods with the EU. May’s approach has upset hardline Brexit supporters in her government, complicating the path to parliamentary backing and potentially weakening her standing as leader. A challenge on either front would further hurt the pound, which has declined 5.4% against the dollar over the last three months.

But while near-term GBP pressure remains, on balance we see recent developments as sterling positive:

  • With less than nine months to go before Brexit, the more balanced approach to EU talks proposed by Theresa May increases the likelihood of reaching an agreement. Continued single market access for at least some UK goods would have benefits for UK growth. And a clearer post-Brexit path may also boost the BoE’s confidence levels as it considers increasing interest rates.
  • Senior ministers have agreed “collective responsibility” on the new Brexit plan, which may reduce the ministers' appetite for rebellion. Davis, even in resigning, advocated against a leadership challenge, while Pro-Brexit ministers Michael Gove and Boris Johnson have backed Theresa May’s approach. With no effective alternative plan or candidate, a challenge to the PM's leadership looks unlikely for now.
  • Our base case is for a broad decline in the US dollar over the next three, six and 12 months. This should help bolster the pound on a bilateral basis. We see EURGBP as trading flat over the coming 6-12 months.

There is still some way to go before the path is clear for the pound to rally. While the UK cabinet has agreed amongst themselves, this is clearly not the same as an agreement with the EU. And faltering economic data doesn't suggest that the case for an August rate hike by the Bank of England is particularly strong. We are cautious on the currency over the next three months. But with positive developments in recent days, it is at least looking more likely that these obstacles will clear in time. We forecast GBPUSD at 1.42 in six months and 1.48 in 12 months. Our EURGBP forecast is 0.88 for both six and 12 months.

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