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GBP: Getting Ready To Long GBP Into One Final Dip Ahead

GBP: Getting Ready To Long GBP Into One Final Dip Ahead

On February 9, 2017, Posted by , In Uncategorized, By , With No Comments

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We believe that some of the traditional macro drivers for GBP, such as global growth and the UK housing and labour markets, are unlikely to be significantly impacted by the Brexit negotiations in the coming months. As a result, the divergences between these key drivers and GBP, which have built up as political risk premium has dominated price action, could be closed.

We expect one final dip in GBP as Article 50 (A50) is formally triggered and as the EU formally responds and sets out its negotiating position.

We think the crystallization of risks and the start of the countdown to Brexit may prove to be the low in GBP and the opportunity to enter GBP longs.

We reiterate our view that the formal triggering of Article 50 will mark the final phase of sterling’s decline and mark the low point for GBP this year.

Our Q1/Q2 forecast for GBP/USD remains $1.15, although we concede that this target is being challenged. The scale of the GBP reaction will hinge on the EU’s initial response to formal triggering. We are not optimistic on this front. We expect that the EU will inject a dose of reality regarding the challenges the UK will face in forthcoming negotiations. The EU will likely reiterate its red lines (the four fundamental freedoms) and the 2-year stopwatch thus becomes live. This scenario effectively challenges the growing view that the process toward divorce will not be a smooth one.

Medium-term fundamentals bullish GBP. Even though sterling has effectively decoupled from the UK growth cycle, in doing so, it is exposing the pound to upside risks if Brexit risks fade into the backdrop or as the markets become immune to the incessant news flow. In our view, with some of main pillars that have historically driven GBP through the business cycle remaining resilient to the Brexit shock, the upside risks to sterling are building. GBP looks cheap versus domestic metrics, such as the housing and labour markets.

We are therefore more optimistic on the medium term outlook for GBP, notwithstanding the near-term headwinds, which we think will push GBP back towards the bottom end of its trading range and further.

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