Sterling has chalked up its worst week since March against both the dollar and the euro due to rising fears that the UK could leave the EU without a trade deal after a rapid deterioration in Brexit talks.
The pound lost 4 per cent against both its major peers in an abrupt reversal of the currency’s strong run of recent months, dropping to $1.2761 on Friday, having started the week at near $1.33. The currency also sank against the euro, trading at €1.07, down from €1.12 on Monday.
Investors had largely ignored the status of Brexit talks through the summer months, pushing sterling higher against the weakening dollar in the belief that the two sides would eventually reach a deal on trade. But the UK’s threat to break international law and disregard parts of its withdrawal agreement with the EU has spooked investors, who responded by selling sterling to prepare for the possibility of the UK’s leaving the EU’s single market and customs union with no fallback arrangements.
“The market is simply going through a rude awakening,” said Vasileios Gkionakis, head of currency strategy at Lombard Odier. “Our view for these past couple of months has been that around $1.30 or above, sterling was not pricing adequately the risk of a no-deal Brexit.”
The pound traded as high as $1.3482 on September 1, after a summer rally that led to the UK currency wiping out all of the steep losses sustained earlier in the year. But the rally snapped after the Financial Times revealed the UK’s plans to renege on commitments it made as part of leaving the EU at the end of last year. The EU has responded by threatening to sue the UK.
UK prime minister Boris Johnson has also stepped up rhetoric about a no-deal outcome, setting mid-October as a deadline for the two sides to reach an agreement. In response, sterling has been especially hard hit against the euro, which is now almost 10 per cent stronger than at the start of the year.
“For now, the UK and EU are at a stalemate with time working against them. ‘No deal’ is a real possibility,” said Jordan Rochester, a currency strategist at Nomura, who expects the pound to sink to €1.02 if negotiations ultimately fail.
HSBC analysts said the sharp turnround had been “a stark reminder of the vulnerabilities the currency faces”, adding that they expected sterling to trade at $1.20 in the coming months.
Analysts are bracing for large price swings in the pound for the rest of the year. According to futures data from CME Group, investors are becoming increasingly pessimistic about the currency’s prospects and expect a big rise in volatility in the pound’s exchange rates in early November.
“Investors are clearly concerned that much larger movements could be in store as we approach the 15 October deadline for progress in the Brexit negotiations,” said Erik Norland, a senior economist at CME.