‘Pound is not bulletproof’ but markets show no alarm at tone of UK/EU talks

The gloves are off. The markets are not.

After a long weekend of bitter leaks, the ‘nasty’ tone of talks between the UK and the EU in the early stages of Brexit raises that the two sides will fail to reach a deal in their divorce, Labour Brexit spokesman Keir Starmer points out.

But if investors are worried, they are hiding it well, with sterling, a reliable measure of ‘hard Brexit’ nerves, holding steady above $1.29. (At pixel time, it is 0.3 per cent higher on the day at $1.2925.)

Simon Derrick at BNY Mellon thinks the currency may struggle to keep on climbing in this environment.

Sterling is not bulletproof… While political clarity has been applauded by investors so far this year, it is clear from the past 36 hours of trading that the focus is now moving on to the negotiations over the UK’s exit.

Get used to the tone, and expect it to pinch, says Citi:

Towards the end of the Brexit process in early 2019, such leaks and rumours could sow additional uncertainty in markets and the economy, supporting our view that risks to the UK (and EU) economy will be to the downside in that period.

Jordan Rochester at Nomura thinks sterling is looking overly battered and bruised, and is in line for a further boost:

There are three reasons why we expect sterling to outperform: 1) the inflation premium in sterling is starting to look over-stretched; 2) the Bank of England may start to become less pessimistic if a positive global growth surprise catches the UK markets off-guard; and 3) the difficulty of the early stages of the Brexit negotiations looks to be priced in already.

All three may be proved wrong, but with the high levels of pessimism still priced in the pound we think the market may be about to receive some much-needed optimism and that would be supportive. Sterling is likely to continue to rise and we expect it to trade initially to $1.32 with a risk it finishes the year at or above $1.37.

He adds:

The political noise on its own may not be enough to drive sterling another leg lower from here.

The EU-UK negotiations at each and every turn could provide uncertainty and worries about a “cliff edge” with no deal being reached and the UK falling onto WTO rules. This is highly likely to be a feature of the news cycle over the next two years, but the likelihood of this being the end-game is quite low in our view.