(Bloomberg) – The pound is heading for the worst monthly decline this year, and a longer list of risks suggests further turmoil in June.
Sterling traders are expected to face increased uncertainty on several fronts next month – the late June deadline for the Brexit transition extension, the possibility of negative interest rates in the UK and the economic exit from the pandemic ban.
This suggests that the market is likely to break with the seasonal dormancy, with volatility possibly reaching the highs not seen in June since the 2016 Brexit referendum. The pound fell more than 3% against the dollar this month to around $ 1.2190 on Monday, falling for the eleventh consecutive time in May.
"There is great uncertainty around Brexit and late June," said Neil Jones, head of foreign exchange sales to financial institutions at Mizuho Bank. "Uncertainty generally increases volatility."
The current transition phase to Brexit ends at the end of the year, which means that Great Britain and the European Union only have to conclude a new trade agreement until then in order to avoid tariffs and quotas. The other option is to extend the split time – and the last date for this is June 30th. Talks between negotiators will resume on June 1, after discussions have made little progress this month.
Brexit is personally seen as the official barbed trade amid high tension
The unwillingness to extend the transition period would pose a major challenge for negotiators to cobble together a trade pact – a process that often takes years – within a few months. This would only increase concerns that the two sides could separate without an agreement.
Mizuho’s Jones said volatility in sterling is likely to increase due to such a prospect and an extension of the transition, albeit not to peaks seen during the pandemic's peak in March.
The pound could also see large swings around the Bank of England meeting on June 18. Money markets are already pricing the prospect of UK interest rates below zero by the end of the year after recent comments from members of the Monetary Policy Committee indicated that the central bank is not. t exclude the possibility. This outlook brought UK two-year bond yields to a record low below 0% last week.
What Bloomberg Intelligence says
"Risk managers will hedge negative interest rates because they cannot currently be completely ruled out. However, they are unlikely to become a policy soon as quantitative easing reinforces the preferred option." Only when we get a real signal can the two-year yields become much more negative, as was the case in Germany. "
– Tanvir Sandhu, Chief Global Derivatives Strategist
According to Bloomberg Economics, negative interest rates are unlikely to have a significant impact on the economy, and a stronger policy mix could be for the BOE to continue buying assets and complement the government's fiscal incentives.
"I think an increase in QE is included, but negative interest rates would add pressure to the pound at this point," said Jane Foley, a senior foreign exchange strategist at Rabobank International.
Pound Risks 35-Year Low With BOE Fueling Sub-Zero Rate Bets
Should Britain become the next big nation with negative interest rates, the pound could also be put under pressure from the options front, where risk reversals indicate that traders have remained less bearish compared to the spot market.
The meter, a barometer of market positioning and sentiment, shows that there are still general downside risks to the UK currency. The latest data shows the depth of economic damage caused by the Covid 19 crisis, and investors will be looking for the effects of easing restrictions on the spread of coronavirus in the country.
For Rabobank's Foley, expectations for pound fluctuations should have been higher next month as the Brexit news is back.
"Given that tensions over Brexit will increase and political pressure on the government to deal with Covid-19 will increase, it is almost inevitable that we will see further volatility and downward pressure on the pound by June," she said .
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