Pound Sterling at Risk of Hitting 2018's Worst Exchange Rate Against Euro this Week

Above: The UK's Dominic Raab says his country is seriously considering a 'no deal' Brexit, an outcome consistent with a weaker Sterling. Image © European Union, 2018 / Source: EC - Audiovisual Service / Photo: Lukasz Kobus

Pound Sterling trades higher against the Euro at the start of the new week at 1.1062, but earlier in the day the Pound-to-Euro exchange rate tested a fresh 11-month low at 1.1038.

Despite the exchange rate recovering from earlier lows, there is a strong risk Sterling tests fresh lows over coming days as markets continue to factor a 'no-deal' Brexit.

The Pound sold off close to year-long lows in the previous week after the government published advice outlining how companies should respond to a "no deal Brexit".

The 25 documents published Thursday set out what will change if the UK leaves the EU without a deal on future trade ties and what measures the government is putting in place to cope with the fallout.

The moves are seen as a necessary step by the government to prepare for all potential Brexit scenarios; however investors still appear to be demanding ever-deeper discounts on Sterling as nerves for such a scenario materialising grow. 

"Having the country to prepare for such a scenario rattled investors and the Pound rather than actually having soothed them," says Piet Lammens, a foreign exchange strategist with KBC Markets in Brussels.

Lammens says without any good news (from the brexit or data front) to support the Pound, the GBP/EUR exchange rate is likely to continue testing important support levels at 1.1072 / 1.1055.

However, the exchange rate closed at 1.1046 on the week which suggests this key support level has been broken.

We will be watching early trade on Monday for signs that this level has indeed been broken as a break of these support levels could well leave the exchange rate open to a deeper test of the all-time post-Brexit lows at 1.0790, reached in August 2017.

With the UK on holiday on Monday, August 27 we are wary that thin liquidity could well see some volatile moves.

“I remain confident a good deal is within our sights, and that remains our top and overriding priority. If the EU responds with the level of ambition and pragmatism, we will strike a strong deal that benefits both sides." - Secretary of State @DominicRaab pic.twitter.com/k2ZIlpofOZ

— Exiting the EU Dept (@DExEUgov) August 23, 2018

Brexit remains the overarching factor driving Sterling values at present with negotiations entering a key phase with markets becoming increasingly weary that the two sides remain too far apart to reach a deal.

After their meeting on Tuesday, August 21 UK Brexit Secretary Dominic Raab and EU chief negotiator Michel Barnier announced that with some key autumn deadlines fast approaching, negotiations will now be ongoing. Raab and Barnier will probably meet again on Tuesday, August 28, so we will be looking for any communications.

Latest developments see Prime Minister Theresa May preparing a "cabinet crisis summit" to prepare for a 'no deal' Brexit, amid fears that a cabinet row between 'Remainers' and 'Brexiteers' will stop Britain going it alone, and undermine her negotiating position with Brussels.

The Prime Minister's office has reportedly ordered cabinet ministers to clear their diaries for September 13 to work on a plan to pump fresh cash into critical areas not yet covered by disaster plans.

Only when markets are convinced that a 'no deal' Brexit will be avoided to we believe the conditions for a sustainable recovery in the Pound will emerge.

Oversold?

While Sterling is certainly under pressure, there are suggestsion that it is significantly oversold, particularly given the actual prospects of a 'no deal' Brexit remain slim.

Many foreign exchange analysts have said the odds of a "no deal Brexit" are actually very low as the PM is likely to offer any compromises that she has to in order to avoid such an outcome. If this is right, the Pound could be edging toward a sharp move higher.

"Brexiteers probably also will be content to settle for getting Brexit "over the line", given the still-significant risk that it might not happen at all, either following a change of government or a second referendum. Indeed, Mrs. May's ability to threaten rebellious Brexiteers within her party with a second referendum has been enhanced following a rise in public support for another vote. Accordingly, we see just a 10% chance of a no-deal Brexit," says Samuel Tombs, chief UK economist at Pantheon Macroeconomics.

some of those who say "a lot of bad news is already priced into Sterling" project the Pound-to-Euro exchange rate will find strong support at 1.0950 and suggest that deteriorating risk-reward metrics will prevent traders from pushing below here.

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