In our previous analysis on the pound, we claimed that the number of catalysts driving the currency’s bullish trend were running out. At the time, we warned that the rally was running out of momentum, but did not see any evidence that would suggest adopting a bearish stance. Following recent weakness in the British pound, we downgraded our longer-term outlook on the currency to bearish on April 27. Beyond a significant deterioration in price, the recent fall in the currency has been accompanied by accelerating trading volumes and rising volatility. These are all signs that bears are selling the currency with high conviction.
While the pound is currently looking oversold and due for a short-term rebound, the longer-term picture is bleak. Specifically, we expect the pound to continue weakening thanks to renewed political uncertainties regarding the Brexit process, slowing economic growth across Europe, and falling expectations for another rate hike this year.
Theresa May’s government has few ways to win, many ways to lose
In an observation of the Brexit process published a few months ago, we contended that the dynamics of the negotiation meant that Theresa May was destined to concede on many of the EU’s demands. Between her objective to deliver a “smooth and orderly” Brexit and Parliament’s final say on the terms, the Prime Minister’s hands are fairly tied. In recent days, May’s government has struggled to find a solution to the customs union issue.
Looking at the EU, the organization has rejected British proposals to avoid joining a customs union. Theresa May first pitched the idea of a “customs partnership”, whereby the UK would collect tariffs on EU goods entering the UK, but destined for other member states. This was seen as too complicated. The other proposal, “maximum facilitation”, would keep the UK outside the customs union but would involve a hard border with Ireland. This has also been rejected.
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