British Pound Rebound Eyed as Summer Recess Lower's Political Risk Premia say Westpac

© John Gomez, Adobe Stock

- Fading domestic risk premia to give Pound Sterling some room to breath

- Bank of England meeting to provide "improved confidence"

- Pound-to-Euro exchange rate @ 1.1244 at time of publication, 1.3111 seen on Pound-Dollar

Parliament's summer recess will reduce the risk of a leadership challenge on Prime Minister Theresa May and quieten frantic political newsflow which should in turn offer the Pound some room to breath suggests a strategy note from Westpac.

The recess began on Tuesday July 24 and the commons will not resit until September 4.

"Although Brexit politics are the dominant feature in UK, the Parliamentary recess will reduce risk of an imminent leadership challenge. Critical will be the responses of both EU and regional Tory delegates to the selling of the latest Brexit (exit) proposals and May’s visions of UK relationships with EU post-Brexit," says Tim Riddell, a research analyst at Westpac.

"Both will provide some welcome confidence for GBP and allow both GBP and domestic markets to rebound," adds Riddell.

The prospect of the Bank of England (BoE) raising interest rates at their August 02 meeting is also likely to provide upside for Sterling suggests Riddell.

"Despite Brexit risks, Carney and other MPC members have indicated more positive views of the UK economy. Despite some softness in inflation and sales data last week, the prospects for a 25bps hike next week is around 70%. GBP should therefore react more to improved confidence,” says Riddell.

Upside could be capped in a zone between GBP/USD 1.35-37, however, by underlying internal tensions and uncertainty.

"Although positive responses to the recent White Paper should allow for some sound rebounds, the background of internal political tensions should cap GBP/USD towards the 1.35-1.37 upper bounds its range," says Riddell

The recovery should in turn afford the GBP/EUR exchange rate the prospect of rising back to levels above 1.13 and into the range it has traded for the majority of 2018 having recently sunk to multi-month lows sub-1.12.

The British Pound has found itself better bid over recent days following the losses suffered in mid-July that took it to multi-month lows against both the Euro and US Dollar.

The Pound has outperformed following the announcement from PM May that she will take personal control over the UK’s Brexit negotiating team.

"May’s decision to become more directly involved in Brexit negotiations as they enter a more crucial phase has been welcomed by financial market participants," says Lee Hardman, analyst with MUFG in London.

May's move "further adds to optimism that the recent shift in the UK government’s Brexit strategy will help to unblock Brexit negotiations, which had stalled in recent months on the back of Irish border concerns. In the past when PM May has become more involved, it has helped talks to progress," adds Hardman.

This relatively positive short-term outlook contrasts with a more short-term bearish prognosis from strategists at ING Bank N.V, who see a 'summer of discontent' ahead for the Pound.

"We don’t see the stormy political clouds over Westminster lifting any time before October," says Viraj Patel, FX Strategist at ING.

"The perceived odds of a ‘No Deal’ Brexit have increased – and this is likely to keep GBP under wraps in the near-term. There are signs that GBP markets are pricing in some degree of political uncertainty (reduced sensitivity to macro data surprises and relative interest rates, and a pick-up in short GBP positioning)," adds the strategist.

ING have told clients they have downgraded their near-term forecasts for Pound Sterling and are "confined to" pencilling in a 1.27-1.28 trough for the Pound-to-Dollar exchange rate in the third quarter of 2018.

The Pound-to-Euro exchange rate is forecast to bottom towards 1.0860.

ING's "base case" continues to forecast GBP/USD moving back to 1.35 on the easing of short-term political risks in October/November, setting Cable on a path towards 1.40 where they see the exchange rate trading in 2019.

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