Hammond Rams Home Transiton Plan, Supports Pound Sterling Against the Euro and Dollar in the Process

  • Foreign Exchange Market Quotes:
  • Pound to Euro exchange rate: 1.1173
  • Pound to Dollar exchange rate: 1.3080
  • Euro to Pound Sterling exchange rate: 0.8949

The UK’s finance minister Philip Hammond has told business leaders he wants companies to have full access to the single market and customs union for two years after Brexit.

In a series of interviews delivered over the course of the past 24 hours, Hammond has rammed home his pro-business and pro-Sterling agenda in which he argues current trade settings with the EU will remain in place for at least two years after Brexit.

The news acts as a counterbalance to other Brexit headlines, which as we reflect on in this piece, have been quite negative and have been holding Sterling back from making any concerted recovery.

In an interview with the BBC, Hammond said:

“My view on transition is well known, I believe that it would be in Britain’s interest and in the EU’s interest if after we leave the European Union, the single market and the customs union on the 29th of March 2019 there is then a period, call it transition, interim period, whatever you like, during which we will allow our economies to adjust to the new situation rather than having a cliff edge in March 2019 which would cause immense disruption for businesses and citizens.”

The move has been described as significant by commentators as Hammond has effectively said everything stays the same when Brexit happens.

Importantly, Hammond is also indicating that he has Cabinet support for this plan and he is beginning to win the argument, with the help of business leaders.

Can Hammond become the poster-boy for those who believe the UK desperately needs to soften its approach to brexit?

Another question to ponder is that were Hammond to become that poster-boy, would the EU’s position soften in a tacit signal that this is the kind of pro-European individual they want to be working with?

We believe the above to be key considerations for Sterling going forward and expect it to be potential source of strength in the future.

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But, Other Brexit Headlines Haven’t Been Good for the Pound

Sterling’s resillience this week that has seen it rise against most of its major competitors comes despite poor newsflow regarding the Brexit story.

The EU’s chief negotiator Michel Barnier has told ambassadors to the EU that the first round of negotiations are unlikely to be settled before October as the UK has been unable to provide sufficient clarity on its positions during the last week of talks, leaving him pessimistic about the future.

The risk for the UK is that progress is too slow and they are forced into a poor deal by time running out, or they simply don’t get a deal at all.

Developments regarding the Irish border have not been constructive either amidst reports that the Irish republic are hardening their stance by calling for the EU-UK border to be located at ports and airports.

The drawing of the border in the Irish sea has been met with fierce criticism from Northern Ireland’s DUP which warned that unless the Republic softens its stance there would be “a very hard border” between the North and Republic.

The DUP has said it will block Dublin’s bid to push forward with its vision of moving the border to ports with Sir Jeffrey Donaldson, a senior Democratic Unionist MP, saying there is “no way” his party would sign off on the plan amid concerns that it would create a barrier between Northern Ireland and the rest of the UK.

Elsewhere, the UK’s immigration minister said that EU free movement into the UK of EU citizens will end when Brexit happens in March 2019.

The suggestion by Brandon Lewis would suggest that the UK would be willing to be ejected from the single-market at this point as free movement of people is a central tenet of single-market membership.

It suggests a transitional deal the sees the UK stay in the single-market and customs union for a number of years following Brexit is not guaranteed, and this will worry businesses.

The message contradicts a notable shift in favour of a transitional period amongst UK ministers with Lewis’ comments going against the grain, suggesting a chaotic Brexit is still a possibility.

Such a chaotic Brexit would be damaging to Sterling.

Some would argue the EU would be quite relaxed about such an outcome as there doesn’t appear a desire in Europe to let the UK endure anything but a punishing exit.

Despite the news the Pound to Euro exchange rate had managed to peak at 1.1228 having started the week in the low 1.11s.

Granted, this kind of recovery is nothing to get excited over but that Sterling is not plunging to fresh multi-year lows which does confirm a resilience to levels sub-1.11 is strong.

Why is the Pound Showing Resilience?

There are three reasons we believe Sterling is holding its nerve:

1) The Pound is fundamentally well valued against the Euro in the 1.11-1.14 region;

2) The US Dollar continues to struggle (more on this here)

3) Technical considerations confirm the Euro to be overbought allowing the Pound some breathing space.

Let’s look at some of the points in more detail.

The Pound is Comfortably Valued Against the Euro

Those visitors to Pound Sterling Live on Thursday, July 27 will have read our report on why the Dollar is likely to suffer more losses against the Euro than will the Pound over coming weeks.

Credit Suisse argue that the uncertainty facing the Pound over Brexit could quite easily turn into a positive driver should the UK get its act together with regards to Brexit.

As such, while Credit Suisse downgraded their forecasts for the Dollar against the Euro, they were content to leave their year-end forecast target at 1.11 to reflect on the prospect of Sterling staging a sustained relief rally that would ultimately put a floor under its recent woes.

Analysts at Barclays have meanwhile updated clients with their global FX forecasts released in July and say they believe the Pound to Euro exchange rate will end the year at  1.1364 before edging higher through the course of 2018.

For Barclays, the Bank of England will provide support.

“Despite concerns by others that the BoE would be committing a policy error if it hikes rates, some members of the MPC may be asserting that enough is enough: protecting the long-run value of GBP and BoE credibility by removing exigent policies may merit a temporary loss of output,” say analysts at high-street lender.

Furthermore, the Euro is looking expensive, particularly against the US Dollar:

“We continue to believe that the conditions for a EUR breakout are not yet met and that the current move likely is an extension of a shift higher in the centre of the range. Moreover, the conditions for a significant tactical reversal are increasingly apparent.”

They expect the EUR/USD to reverse and end 2017 back at 1.14.

This is significant in that a reversal in EUR/USD will more likely than note see EUR/GBP reverse too.

And if you are not convinced by the estimates provided by just two institutions take note – the median and mean forecast for GBP/EUR broadly places the exchange rate in the 1.11 – 1.15 range by end-2017.

Those interested in delving into the exact numbers and projections can download our collated forecast document which contains the finer details.

Technicals: An Overbaked Euro

A theme we have been covering in separate articles over recent days is the Euro’s run higher which appears to be a case of too much, too soon.

Technical analysts – who are primarily concerned with the structure of the market – note that a corrective turn higher by Pound Sterling is underway.

“Momentum studies are still unwinding from overbought,” says Robin Wilkin at Lloyds Bank.

According to David Sneddon at Credit Suisse, the exchange rate is “still in a consolidation phase.”

However, all the technical analysts we have been following are in agreement that the Pound’s decline is not yet necessarily done with a fall to 1.1048 being the likely end result of any leg lower.

So if the technical community are correct the Euro is likely to ultimately restart its longer-term trend of appreciation within the next few weeks.

 

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