Pound Sterling: "Santa Might Deliver a Brexit Gift After All" say Berenberg, Sterling Tacks Sideways vs. US Dollar and Euro Today

• Pound-to-Euro exchange rate today: 1.1288, today's best: 1.1328, and lowest: 1.1268
• Pound-to-Dollar exchange rate today: 1.3127, today's best: 1.3152, and lowest: 1.3084.

Above: Michel Barnier, the EU's Chief Brexit Negotiator holds near-term moves in Pound Sterling in his hands. (C) European Commission.

"It would likely have a positive effect on business confidence and the Sterling exchange rate,” - Kallum Pickering, Senior UK Economist at Berenberg.

The sixth round of Brexit negotiations get underway in Brussels on Thursday, November 9 and currency markets will be looking for progress to underpin the value of the Pound.

The Pound has been seen trading in a sideways fashion against the Euro and US Dollar over recent days amidst nerves as to how the latest round of talks will progress.

The question for markets is whether the latest round of talks will deliver the breakthrough many in the foreign exchange market place are looking for to justify Sterling at current levels, or propel the currency higher.

“The market is currently pricing in a transitional deal” says Sam Lynton-Brown at BNP Paribas. “But this highlights a vulnerability. If market sentiment shifts, if the market starts to price in a ‘no deal’ scenario, it’s likely to weigh on Sterling.”

The problem with politics - when it comes to foreign exchange markets at least - is the added unpredictability. We simply can’t use numbers, surveys and projections to make a prediction ahead of an event like we can ahead of an economic data release.

When it comes to Brexit negotiations the best we have are news bites to get a an idea of the potential outcome and expectations and therefore the nature of the update delivered in the press conference has the ability to really move Sterling.

And based on recent headlines, Kallum Pickering, Senior UK Economist at Berenberg is optimistic on the British Pound's prospects telling clients he believes “santa might deliver a Brexit gift after all”.

Pickering’s optimism is centred on a Reuters news report that EU diplomats are beginning the process of sketching out the terms of a Brexit transitional deal which could enable the UK to remain de facto within the Single Market for a further two years after March 2019.

This follows reports by the Sunday Times at the weekend that UK PM Theresa May is prepared to pay the €60bn divorce bill outlined by the EU.

The divorce bill is based on EU spending commitments agreed by the UK before the Brexit vote.

“While we do not expect the UK and EU to finalise Brexit (divorce settlement, EU citizens rights and Irish border question) and a transitional deal before the end of 2017, this ‘soft’ progress sets the stage for some concrete progress at the Brexit negotiations scheduled for December,” says Pickering.

Berenberg see a good chance that the UK agrees in principle the formula for the divorce bill set out by the EU by the end of the year.

“If this happened, it would reduce the market’s perceived risk of a no-deal ‘hard Brexit’ scenario.  It would likely have a positive effect on business confidence and the Sterling exchange rate,” says Pickering.

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It's Going Better Than Expected

Brexit negotiations between the UK government and the EU Commission are set to resume today with both sides working towards reaching “sufficient progress” on the first set of divorce issues – finance bill, EU citizens’ rights and the Irish border – in time for next month’s EU leaders’ summit.

Talks on a potential two-year transitional period after Brexit and the future trading relationship can then begin.

Talks had at one stage been seen to be in deadlock, while the two most recent rounds have yielded further progress, with Prime Minister Theresa May’s Florence speech being credited with unlocking a number of doors.

“So far, Brexit is going a little better than expected,” says Pickering. “Keep in mind the early predictions by UK Brexit secretary David Davis. Davis had promised before the first UK-EU talks began that the order of the negotiations would be the ‘row of the summer’. This never played out.”

The notion that real progress has been made would strike some readers as being an odd assessment of progress.

“So far the negotiations have been slow, and there are few signs of progress yet. This suggests a rising risk premium on the GBP going forward,” says Richard Falkenhall, Senior FX Strategist with SEB.

But Pickering makes some valid points that suggest the negative view adopted by many are too pessimistic as the UK has already:

(1) accepted the EU sequence for negotiations (divorce issues first, post-divorce trade relations later);
(2) acknowledged in general terms that it will still have to pay into the EU budget in return for any privileged market access;
(3) started to contemplate a transition period after formal Brexit on 29 March 2019 to allow time for a post-Brexit deal; and
(4) admitted that the European Court of Justice will play a role in dispute settlements in any transition period.

“Not withstanding the short time horizon to figure out Brexit, this represents real progress. These key elements can provide the basis for a sensible Brexit outcome,” says Pickering.

Indeed, the EU might have little choice but to agree on progressing talks if it wants to maintain its impressive united front on Brexit negotiations seen thus far. Why? Because some countries have more to lose than others.

As noted by research from Oxford Economics, Ireland stands to lose more in terms of economic growth than any other European country on a disorderly Brexit scenario.

It should come as no surprise that news out of Dublin is that Ireland wants talks to progress. Irish Prime Minister Leo Varadkar says it is "likely" EU leaders will give the green light for Brexit talks to focus on trade, at their meeting next month.

Varadkar says this was his own belief rather than a forecast of any European Council decision but the subtext is clear - Europe cannot afford to sacrifice the interests of countries such as Ireland in dogmatic pursuit of seeking a punitive deal for Britain.

Whether or not the market shares these views is a little more difficult to say. Yes - Sterling is certainly well above its multi-year lows and appears to be forming a convincing base against the Euro, Dollar and G10 currencies.

But, could it go higher? If so, then we would need a scenario where markets are not as optimistic as Berenberg's Pickering in which case they will have to play catch-up and bid the Pound higher as they account for tangible signs of progress on Brexit.

Get up to 5% more foreign exchange by using a specialist provider by getting closer to the real market rate and avoid the gaping spreads charged by your bank for international payments. Learn more here.