Pound's gain on Brexit deal seen capped
UK faces long-term challenges including a trade pact with EU
LONDON: The pound rallied on reports a Brexit transition agreement has been reached, yet its gains are likely to be limited for now, analysts said.
Sterling rebounded and gilts fell as news reports suggested an agreement was close ahead of a joint press conference by the UK’s Brexit secretary David Davis and his EU counterpart Michel Barnier at 11.45am London time.
UK officials consider the terms of the transition to have been agreed, and it’s just awaiting a sign-off from Davis and Barnier, according to two people familiar with the situation.
That came after a Barclays Plc survey of investors last week found that most respondents didn’t expect an agreement until at least October. Despite the gains in yesterday’s session, Aberdeen Standard Investments and Rabobank see any pound appreciation as brief, given longerterm challenges faced by Britain, including that of reaching a trade pact with the EU.
“The stronger pound reflects building optimism that a transition deal will be agreed this week,” said Lee Hardman, an analyst at MUFG. “The EU press conference has fuelled optimism of a breakthrough in talks over the weekend.”
The UK currency gained 0.5% to US$1.4017 as of 11.21am London time yesterday, after earlier touching US$1.4046, the highest since Feb 26.
It was up 0.6% at 87.65 pence per euro. The yield on 10-year UK government bonds climbed four basis points to 1.47%.
The biggest stumbling block to a transition deal so far has been the Irish border, with UK Prime Minister Theresa May saying after the first draft that no UK leader could accept such a deal. Although it’s looking more likely that a compromise will be reached in time for an EU summit on March 22 and March 23, this could mean the problem resurfaces later in the talks.
“The fact that the parties seem to have a lot of work to do before a trade pact is announced should mean that any relief displayed by the pound is likely to be measured,” said Jane Foley, head of Group-of-10 currency strategy at Rabobank.
The Bank of England’s meeting on Thursday is also in focus, with investors watching for hints that the central bank is ready to raise interest rates as early as May.
A hawkish shift in stance by the central bank is largely factored in for sterling. Money market pricing currently suggests an almost 82% chance the bank will raise borrowing rates in May, up from just 5% at the start of February.
That probability could move up to almost 100% if a transition deal with the EU is reached, provoking a sell-off in front-end gilts, according to John Wraith, head of macro rates strategy in London at UBS Group AG.
“We need to see the language, conditions etc, but this is obviously progress and likely enough to cement a May hike in our view,” Wraith said. — Bloomberg