Don’t buy into the sterling rally as Brexit and politics weigh
THE pound staged a mini rally after UK Prime Minister Theresa May won a confidence vote this week, although that was as much to do with euro weakness as any positive sentiment towards the currency, or on clarity over Brexit.
The battered British currency was headed for its best week against the euro in over a year, which likely says more about how far it has fallen than how far it has to rise.
The best course of action is to avoid sterling if you can, but if you do have exposure as an Irish exporter, to use any rallies to lock in hedging as the Brexit process still has a long way to run. While the consensus is that a cliff-edge will be avoided, it is not a given.
“After remaining in a 89-91p range for most of December, this break lower in EUR/ GBP through 89p has seen a pickup in customer activity as Irish exporters look to take advantage of sterling strength against what remains a very uncertain backdrop regards the next steps in the Brexit process,” said Philip Hartley, head of FX & emerging markets, Bank of Ireland Global Markets. “Importers should be cognisant of the upside risks for sterling however we are not complacent about the current situation, significant downside risks still remain.”
Since the 2016 referendum, the UK has sunk from being one of the top-performing developed economies to close to the bottom of the pack and the risks from Brexit look like being prolonged.
The bullish case for UK economic growth is that once the uncertainty is removed, even in the case of a hard Brexit, growth will resume and asset prices, including the pound, can recover.
The problem with that view is that the consensus has proved to be horribly wide of the mark.
And financial markets have a terrible record when pricing political risk, whether it was shock election victory of Donald Trump, or Britain’s 2016 referendum.
The pound is down 16pc since the referendum and while resolving Brexit will set the tone for markets, finalisation of Brexit may well produce yet more uncertainties.
The ‘Financial Times’ reported on Friday that Britain had failed to secure most of its post-Brexit trade deals, something the government had boasted would be easy to do.
Brexit may also usher in a Labour government under Jeremy Corbyn, who promises a radical departure from the free-market policies that have held sway since the 1980s and it is he who likely holds the key to unravelling the relationship with the EU.
“Up to now, his strategy has been to sit on the political fence throughout the entire Brexit process and wait for the Conservatives to make such a mess of Brexit that he could win the next election,” said Jacob Funk Kirkegaard of the Peterson Institute for International Economics, a Washington, DC, based think tank.
“Now the polls suggest the voters are ready to reject him over his apparent passivity, if not impotence.”
Mr Corbyn has been in the British parliament since 1983, but has never been in government and has defined himself in terms of his opposition to Conservative policies and to many of those from Labour when they were in power.
His approach to the EU would be to hold more talks, stop free movement and to remain in a customs union, although many of his policies would run foul of EU rules.
With global growth slowing, and credit markets tightening, the room for tolerance of radical policies looks set to diminish.
And Mr Corbyn’s plans for higher business taxes, more government spending and a nationalisation programme may well mark the start of another downturn in the pound’s fortunes.