If the political risks don't fade, the attacks of the GBP/USD bulls are doomed to fail

In one of his recent interviews, Donald Trump dropped the phrase that exchange rates should not be determined by politicians. In fact, modern Forex without political risks is like a cobbler without boots. Officials can clarify things, but usually they do the opposite, which is regarded as uncertainty and leads to increased volatility and capital outflow from sovereign financial markets. If the country is in desperate need of non-residents' money because of the need to finance the current account deficit, its currency can easily sink to the bottom, which, in fact, happened to the British pound.

The GBP/USD bulls were too enthusiastic about the positive macroeconomic statistics for the Foggy Albion and pushed the quotes of the pair to the highest mark in 2.5 months, completely forgetting about Brexit. Alas, Theresa May's speech at the EU summit in Salzburg returned the fans of sterling to earth. Some European media regarded the phrases "the negotiations have reached a deadlock" and "the lack of a deal is better than a bad deal" from the British Prime Minister as an insult. If May was counting on domestic support, her plans failed. The Laborites said they would vote against the program presented by the head of government, and the Conservative meeting in Birmingham threatens the party leader with a vote of no confidence. Pound volatility jumped to its highest since February, the premium difference between call and put options dropped to the lowest level since January 2017, and the spread between implied and actual volatility of quotations reached its highest level since the referendum on Britain's membership in the EU.

Dynamics of the pound volatility spread

Source: Bloomberg.

Simply put, investors still believe in the favorable outcome of the talks between London and Brussels, but they continue to insure the risks of the collapse of the sterling. According to MUFG, the spread of the GBP/USD can be very wide. From 1.15 to 1.45, depending on whether the deal is reached and the Brexit is soft or hard.

But before the Austrian summit of the EU, it seemed that the pound was finally in the winning streak. Positive data on GDP, the average wage, inflation and retail sales moved the deadlines of the repo rate increase from the beginning of 2020 to August 2019, which is a uniquely bullish factor for any currency. It did not help the sterling, whose legs are tied to the weight of political risks. It is still wary of the upcoming meeting of the Conservative Party and Italy, where Eurosceptics are going to present the draft budget. If there are problems, the euro will pull the pound to the bottom.

In my opinion, if we proceed from the assumption that an agreement between London and Brussels will be signed, the medium- and long-term prospects GBP/USD look optimistic. The pair is quite capable of reaching 1.4 in 2019. However, the current uncertainty does not allow me to give recommendations for purchase, at least until the sterling rises above 1.3285-1.3295.

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Price chart of GBPUSD in real time mode

Pound: if it was meant to fly it would have wings

The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.

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