GBP: Risks are more making and less breaking - ING

Viraj Patel, Foreign Exchange Strategist at ING, suggests that as EU and UK officials have reportedly agreed the terms of a Brexit transition deal and while (at the time of writing) we still await the details of the agreement – analysts at ING suspect today’s outcome will go some way to alleviating the short to medium term uncertainties surrounding the UK economy. 

Key Quotes

“The pound has moved higher against both the US dollar and euro (around +0.5%) – given that today’s reported agreement is a positive surprise for investors who had broadly scaled back their expectations for any Brexit progress being achieved this week.”

“We believe that GBP’s re-pricing of Brexit transition optimism is now complete – and revert our attention back to UK economic fundamentals to determine the scope and extent of any GBP appreciation over the coming weeks. A Brexit transition agreement is one element of GBP’s bullish trifecta this week; if all the cards were to fall perfectly into place – and we also see a status quo hawkish Bank of England policy message and constructive UK wage inflation data – then we would not rule out a sharp move in GBP/USD up towards the year-to-date highs around 1.4250-1.4300 (+2.0% approx).”

“Our base case remains for GBP/USD to move up to 1.45 as the UK economy regains some of its cyclical swagger – but we do think that patience may be required before investors look to take that bet. We had previously cited two non-mutually exclusive catalysts for this to happen: (1) positive UK data surprises and (2) reduced UK economic uncertainty in the form of an agreed Brexit transition deal. Today’s news means that the latter condition has been ticked – and gives us greater conviction over our 1.45 target.”

“Indeed with the UK economy at an inflection point – in theory, reduced Brexit uncertainty means the scope for positive UK data surprises over the coming year has increased. Forward-looking indicators (business surveys and PMIs) over the coming weeks and months will be a big test of this – and we’ll be monitoring these closely to see the responsiveness of UK economic activity to reduced uncertainty brought about by an agreed Brexit transition deal.”

“Bottom line: Risk-reward suggests that an extremely cheap GBP has greater room for a cyclical recovery over 2018 (we still look for a 3-5% sterling appreciation in trade-weighted terms this year).”