Pound Tipped to Test 2016 Lows Against the US Dollar Over Coming Weeks

2017 has started in negative fashion for Pound Sterling as markets ready themselves for the commencement of Brexit negotiations and any potential negatives that are likely to come out of them.

Surprisingly, Sterling was the best-performing G10 currency in the final quarter of 2016 thanks to the great Trump reflation trade.

The rise in US and UK interest rate yields – in anticipation of higher inflation owing to Trump’s pro-growth policies – aided the Dollar and Pound Sterling.

Historical charts reveal the Pound to Dollar exchange rate rose from ~1.21 in October to hit a high of ~1.27 by mid-December.

Pound Sterling was also allowed to rally as news on Brexit became thin on the ground – there was the sense that the next substantive news on the issue of Brexit would come as we approached the triggering of Article 50, widely expected to take place in March.

However, the issue of Brexit was brought into sharp focus on January 8 when Prime Minister Theresa May gave an interview to Sky News where she reiterated her desire for the Government to take full control of Britain’s borders once the country exits the European Union.

European leaders have made it clear that free movement of people is a necessary condition for any country wanting membership of the single market.

By selling Sterling traders are betting that the UK is to relinquish membership of the free market.

And we should expect further weakness.

Analysts at Morgan Stanley have told clients that the continued uncertainty over Brexit is one reason they are betting on a decline below 1.20 in GBP/USD:

“Last week we added short GBP/SEK and today we propose short GBP/USD. It is not only that Britain’s current account deficit may not adjust as quickly as previously hoped as post Brexit domestic demand has remained strong – thus keeping the UK dependent on international funding – but also the absence of a Brexit negotiation strategy now being suggested by the British press.

“Sell GBP/USD at market with a target of 1.17 and stop at 1.23.”

The Outlook: Weakness to Persist

With regards to the near-term outlook, May has pledged to reveal further details of the Government’s stance ahead of Brexit negotiations.

We believe this is where the next major moves for Sterling will come from – forget any talk of the Supreme Court’s Article 50 ruling.

We believe the Court’s decision is almost irrelevant as the Government has already ceded some oversight to parliament and both major parties have pledged to trigger Article 50 by the end of March.

Yet, the trend for Sterling should remain lower, as noted by analyst Amsmara Jamaleh at Intessa Sanpaolo:

“Doubts persist on what the government’s priorities will be during actual negotiations. In the near term, this may significantly curb the pound’s appreciation potential on positive data. However, solid supports and resistances are located respectively in the GBP/USD 1.20 and 0.87.”

In a note to commercial clients Barclays note that GBPUSD has broken below trend line support at 1.2225 and recent 1.2200 support.

“Our traders see 1.2083 as the next target support level, the post flash crash low, followed by 1.2000,” say Barclays.

So it looks like the Pound will soon be testing its multi-year record lows again thanks to renewed weakness.

We would point out that the currency has not closed a day below 1.2160 which suggests there is significant support around this level.

A break below here will surely open up some heavy selling pressures, so those with an interest in the market should be wary of sub-1.20 levels over coming weeks.

Written by Gary Howes at Pound Sterling Live