British Pound Could Break 1.40 vs US Dollar, 1.18 vs Euro in 2017 on Signs of “Economically Rational Brexit”

The latest round of EU negotiations have shown a willingness on both sides of the table to  push forward and in a concerted manner; something which analysts say boosts the Pound’s prospects over coming months.

The Pound is on course to be the best performing G10 currency this month, thanks to a combination of shifting Bank of England policy intentions and improved sentiment regarding Brexit negotiations.

With one interest rate rise at the Bank of England now expected in November the Pound will need the promise of further interest rate rises in 2018 to keep the momentum. And, the Bank will most likely be watching Brexit negotiations to inform this decision. 

The outlook for Sterling is therefore dependent on how negotiations progress and markets are not necessarily looking at the details coming out of the negotiations at this point, rather they are looking for signs that negotiations are happening at a pace that will deliver an orderly transitional period.

Avoiding the so-called cliff-edge in March 2019 is key.

So tone really matters and markets bid Sterling on Thursday, September 28 after the UK’s David Davis and Michel Barnier both confirmed progress had been made in the latest round of Brexit negotiations with Barnier confirming Theresa May’s Florence speech went some way in rebooting a process that had stalled.

"It’s positive that Theresa May’s speech made it possible to unblock the situation to some extent and give a new dynamic,” says Barnier.

Indeed, as noted by a number of broadcast journalists, the atmosphere in the press briefing is certainly more constructive than on previous occasions; and markets agreed sending Pound Sterling higher against a number of key currencies.

Analysts: The Pound Can Go Higher in Remainder of 2017

Although the near-term focus shifts to the Tory Party Conference, which begins this weekend, analysts at ING Bank N.V. continue to see a Brexit transition deal as the next big directional catalyst for their GBP outlook.

From a cyclical perspective, ING say they see three supportive channels for the currency on the back of a transitional deal being agreed:

(1) reinforced BoE policy tightening sentiment and a steeper UK rate curve – with the potential for markets to add a couple of hikes to their BoE tightening cycle assumptions;

(2) a recovery in investment activity which would lead to a positive revision to the UK’s growth outlook;

(3) a reduction in GBP downside tail risks stemming from cliff-edge Brexit risks being pushed further down the road.

“While the merits of a two-year transitional period are clear, we note the finer details – such as the precise budgetary and judiciary conditions of a transition phase – still need to be ironed out by UK and EU officials,” says foreign exchange strategist Viraj Patel at ING Bank in London.

It is suggested details on a transitional period may well be the focus of Brexit talks for the remainder of the year and therefore ING say they “retain a constructive GBP outlook on the hopes that an ‘economically rational’ Brexit – one that reduces some of the uncertainty clouding GBP markets – can be achieved.”

A combination of these cyclical forces lead ING to believe some modest upside could be injected into the Pound over the coming months.

GBP/USD could potentially move up to 1.38-1.40 by year-end.

“Equally, we could see EUR/GBP trade in a slightly lower range of 0.85-0.87 on the basis of a swift transition deal being agreed,” says Patel.

This gives a range for the Pound-to-Euro exchange rate of 1.18-1.15.

Also seeing a stronger Pound into year-end is Lee Hardman, analyst with MUFG in London.

"It has been reported that EU Leaders could offer some reward for the UK government next month by potentially allowing talks to begin on a transitional agreement alongside divorce talks. In light of recent favourable developments we judge that upside risks for the Pound are building heading into year-end," says Hardman in a note dated September 29.

Hardman "would not be surprised to see" GBP/USD back above the 1.4000-level by year end and EUR/GBP closer to the low 0.8000’s.

EUR/GBP at 0.80 is 1.25 in GBP/EUR.

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