For Pound Sterling, it now all Comes down to Parliament Accepting May's Deal

Above: Lead Brexit negotiators Dominic Raab and Michel Barnier. © European Union, 2018 / Source: EC - Audiovisual Service / Photo: Lukasz Kobus

- Brexit deal already "in the price"

- Further GBP gains depend on parliamentary approval of Brexit deal

- Attorney General Cox said to be key player going forward

The Pound might have already absorbed all the good news of a Brexit deal and therefore any official confirmation of a deal might have less of a positive effect on the currency than many expect.

Indeed, analysts are increasingly of the view that currency markets will remain anxious on Sterling until it is clear that any Brexit deal can actually get through the U.K. parliament for ratification.

Therefore, investors need to now start looking beyond the Brexit deal, and towards parliamentary politics. If markets reckon any deal will be rejected by either Northern Ireland's DUP or Conservative party Brexiteers, the Pound could actually fall in the event of a deal being announced which will certainly baffle those who believe a deal is a free-pass higher for Sterling.

"The Pound continues to grind higher and an announcement of a deal between Brussels and London now looks quite well priced, so gains from here initially would likely be limited for the Pound," says Derek Halpenny, a foreign exchange strategist with MUFG in London.

The Pound has been in the ascendency against the Euro since late August when sentiment towards a Brexit deal starting improving, allowing the Pound-to-Euro exchange rate to reach a six-month high at 1.1507 over this week. The Pound-to-Dollar exchange rate is meanwhile near the middle of a range that has been in place for much of 2018 at 1.3045 having risen from late October lows at 1.27.

For analysts at Bank of America Merrill Lynch, a deal covering the terms of the U.K.'s withdrawal from the E.U. is the first precondition for the British currency to extend its recovery. And passing that deal through the divided gauntlet that is the U.K. parliament is the second, final and most formidable obstacle blocking the path higher for Pound Sterling.   

Bank of America's strategists say they are confident a deal can be reached with the E.U. but are less certain about whether it will be palatable enough for sufficient numbers of MPs to vote it through the House of Commons and House of Lords. 

The Pound's recent rally has been sustained by a series of unofficial reports that a deal is in the offing, however official confirmation that a deal will indeed be secured is yet to materialise.

Above: Despite its recent recovery, Sterling remains largely confined to familiar ranges vs. the Euro. Only a Brexit deal that Parliament can accept is likely to break the spell.

For markets there is a sense that the two sides are now at the point where they are negotiating the finer details amidst a clear political will to get a deal secured.

"We think a consensus is emerging around the view that the UK/EU will ultimately reach a deal that should be sufficient for an initial bounce in GBP," says Kamal Sharma, a currency strategist at Bank of America, in a note to clients.

Passing the Withdrawal Agreement in parliament is essential if the U.K. is to avoid leaving the E.U. on March 29, 2019 without any formal arrangements covering trade. Most analysts say this would be bad for the economy.

If the Withdrawal bill passes, the U.K. will enter "transition" between March and December 2020, during which time little will change, as officials negotiate the future trading relationship. 

Sharma and the Bank of America team say it is still too early to tell whether an eventual deal will pass through parliament because it is not yet known what Prime Minister Theresa May and the government have agreed with the E.U. 

"Previously, we have focused our FX view to the binary event of the deal (GBP/USD 1.35+).n However, we think GBP performance is likely to be a two-stage process with market focus increasingly turning to whether any deal can be ratified by the U.K. Parliament given the slender Government majority," says Sharma.

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Both sides have said disagreement over how to manage the Northern Irish border in the event another deal covering future trade cannot be reached is the main impediment to PM May being able to strike a withdrawal agreement.

The E.U. has insisted Northern Ireland should remain in its customs union and single market if a trade deal is not reached prompting Northern Irish MPs to threaten to topple the government if PM May strikes a deal that sees the province treated differently from the mainland. 

PM May has attempted to strike a compromise that would see all of the U.K. remain within the customs union and the single market in order to keep the United Kingdom united. However this has in turn drawn the ire of Brexit-supporting Conservative party MPs, who say such an agreement would betray the majority who voted to depart the E.U.

Those MPs are still a distinct minority in parliament but because the Conservative party and DUP together have a wafer-thin parliamentary majority the Government can only proceed with full unity.

"Further decisive progress in Brexit negotiations should encourage stronger Pound during this month before the market’s focus will begin to shift to whether the deal will be legislated for smoothly," says MUFG's Halpenny.

Of course U.K. negotiators will have one eye on parliament when working out a deal and therefore they will only likely sign a deal they believe will offer enough compromises to all sides. 

The legality of any U.K.-wide backstop will come under intense scrutiny by parliament and reports suggest Geoffrey Cox, the Attorney General, now holds the key to unlocking this issue.

It is also being reported that some form of "independent arbitrary" decision making process could be involved in reviewing the backstop status and whether it can end.

"If a deal is announced with the vast majority of cabinet supporting a deal endorsed by the Attorney General, the markets will likely quickly discount a parliamentary victory which could lead to a much larger market reaction – so the extent of cabinet support will be key to the extent of the initial gain for the pound if a deal is announced soon," says Halpenny.

Forecasts

Both MUFG and Bank of America envision a notably stronger Pound against the U.S. Dollar in the first quarter 2019 should a deal be struck with 1.35+ being predicted.

The forecasts are however above consensus. We recommend downloading the November exchange rate forecast report from Horizon Currency to see where over 50 of the world's leading investment banks and financial institutions are expecting GBP/USD to trade through 2019.

Forecasts for the Pound vs. the Euro are however a little less emphatic with most analysts expecting a stronger Euro in 2019 in line with expectations for higher interest rates at the European Central Bank. To see where consensus are placing GBP/EUR in 2019 please see the Horizon Currency report here.

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Bank-beating GBP exchange rates. Get up to 5% more foreign exchange by using a specialist provider to get closer to the real market rate and avoid the gaping spreads charged by your bank when providing currency. Learn more here