British Pound Firms on Bets May can Win Confidence Vote, Up 0.35% vs. Euro and Dollar

May statement

May tells the media on Wednesday morning she is determined to contest the confidence vote with "everything I have got".

- Pound Sterling to rally 1-2% if May wins leadership vote

- But, markets could be guilty of complacency on outcome of secret ballot

- Pound to "bump along the bottom" going forward says noted City analyst

Pound Sterling is trading firmer against key currencies after it is confirmed that Prime Minister Theresa May is to face a vote of no confidence on Wednesday night with markets betting she will win the vote.

However, we are wary of significant downside in the currency if she unexpectedly loses the vote.

Sir Graham Brady, Chairman of the 1922 Committee, has messaged Conservative party members saying a vote of confidence in the leader of the Conservative party will take place as a threshold of 15% of the parliamentary party seeking such a vote has now been exceed.

The ballot will be held between 18:00 and 20:00 on Wednesday.

"The votes will be counted immediately afterwards and an announcement will be made as soon as possible this evening," says Brady.

This morning, the Prime Minister has told the media outside Downing Street that she intends to fight the challenge "with everything I have got". May has cancelled a scheduled trip to Dublin to make further progress on the Irish backstop issue to deal with the contest.

The move to oust may comes as the battle for the future of Brexit heats up with Conservative party Brexiteers believing they need to install a new leader who is willing to take the UK into a 'no deal' Brexit in order to defend the true spirit of the EU referendum result.

Brexiteers feel they need to move now as the Prime Minister appears week, allowing calls for a second EU referendum to grow louder raising fears Brexit could be lost altogether. Indeed, bookmakers are offering split odds on the prospect of a second EU referendum occuring before 2020.

Brady is obliged to call a vote of no confidence in the Prime Minister if at least 48 Conservative party parliamentarians write to him saying they have lost confidence in their leader. A vote of all Conservative party parliamentarians then takes place: if May loses by simple majority she is out, if she wins she is immune to further challenges for a year.

We don't believe there is enough opposition to the Prime Minister to unseat her in such a vote, and the prospect of May staying in power for a year could in fact benefit the British Pound which craves stability.

"Expect the vote to happen quickly and in all likelihood, May to survive, so ruling out another confidence motion for 12 months," says Adam Cole, a foreign exchange strategist with RBC Capital Markets.

Initial signs are good for May with cabinet big-hitter and Brexiteer Michael Gove immediately coming out in support of the PM:

"I am backing the Prime Minister 100% - and I urge every Conservative MP to do the same. She is battling hard for our country and no one is better placed to ensure we deliver on the British people’s decision to leave the EU."

Bookmakers Ladbrokes say 90% of the money staked so far today has been for May to win a no confidence vote.

Another big name backing May comes in the form of David Gauke has also confirmed backing for the PM saying it would be "an act of self-indulgence" to change leadership now.

Sterling fell in the wake of the initial reports that a vote would happen, something we were reporting on yesterday afternoon.

Therefore, much of the angst surrounding the vote might already be in the price of Sterling and explains the currency's sanguine response to the actual confirmation of the vote:

The Pound-to-Euro exchange rate is trading higher on the day at 1.1068 at the time of writing, having been as low as 1.1003 over the course of the past 24 hours. The Pound-to-Dollar exchange rate is at 1.2534 having been as low as 1.2479 earlier this week.

However, we would warn againt complacency.

"There's a big difference between what ministers are saying in public and what they are saying in private," says Steven Swinford, Deputy Political Editor at The Telegraph, "one who went out on the airwaves to bat for the PM this morning just told me: 'It's the endgame'".

 

What could happen to the Pound going forward?

Sterling is clearly confident May can win the vote, therefore such an announcement might have little material impact on the currency.

Should May win, which is likely, talks of a leadership vote will be shelved for at least a year, offering some sense of stability which could offer Sterling some near-term support.

Martin Lund, a foreign exchange strategist with Nordea Markets, is more optimistic on Sterling's prospects under such a scenario saying "we think Sterling would rally 1-2% in the case of a solid May win, as this would clearly strengthen her position."

Viraj Patel, a note City foreign exchange strategist, says there are a few reasons why the Pound is "holding up" despite a no confidence vote in Mrs May being called:

1. The challenge is "largely priced in" i.e. the reactionary move lower happened last night
2. It's not clear PM will lose (Cabinet support)
3. And, "even if PM's ousted - next Tory leader, general election etc. has ambiguous implications for Brexit outcome & GBP."

The risks are therefore heavily skewed to the downside on a surprise loss.

"There's a big difference between what ministers are saying in public and what they are saying in private," says Steven Swinford, Deputy Political Editor at The Telegraph, "one who went out on the airwaves to bat for the PM this morning just told me: 'It's the endgame'"

If May loses the vote expect the British Pound to fall sharply lower as the loss is unexpected and signals a fresh period of uncertainty for the country and the Brexit process as the Conservative party elects a new leader and Prime Minister.

Bookmakers favour Boris Johnson to win such a contest, and we know he favours a 'no deal' Brexit to the current deal being proposed by the UK and EU.

There is talk on the newswires that some banks are factoring in a potential 3% decline should May lose.

"There’s the risk of a Brexiteer becoming PM and a hard Brexit in March," says Andy Scott, Associate Director at risk management consultancy JCRA. "This scenario would cause further weakness for Sterling due to the higher risks to the economy."

Alternatively, if a former remainer took the keys to Number 10, JCRA say they would expect there to be a delay to Article 50 to allow time for further negotiations. "This scenario would be relatively neutral for Sterling which is currently dealing at historically weak levels against its major counterparts."

Analyst Peter Stoneham at Thomson Reuters says the market is looking at potential for heightened volatility after the vote:

"Bearish guns are ready to fire should May fail, and GBP/USD could take a run at 1.20."

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Analyst say the Pound to "Bump Along the Bottom" from Here

Sterling slumped to three-week lows against the Euro and 20-month lows against the Dollar in the wake of Prime Minister Theresa May pulling the plug on the meaningful parliamentary vote on the EU-UK Brexit deal, and once the dust settles from the impending leadership vote, it will become clear not much has actually changed.

By selling Sterling, markets are essentially betting the prospect of a 'no deal' Brexit have risen owing to the increase in political uncertainty that followed in the wake of the move to pull the deal.

May has since returned to European capitals to try and get legal certainty that the Irish backstop clause negotiated in the deal will be time limited.

European leaders have however categorically ruled this out, while DUP and Conservative party members have categorically ruled out voting for anything that keeps the backstop.

Therefore, this deal won't pass.

Theresa May and Donald Tusk

Above: Prime Minister Theresa May and European Council President Donald Tusk ahead of their meeting in Brussels. May is looking for concessions on the Brexit deal ahead of a meeting of European leaders at the end of this week.

"As Theresa May heads off around Europe looking for some help, the only thing that's certain is that uncertainty will be prolonged into the New Year," says Kit Juckes, a foreign exchange strategist with Société Générale in London. "A January vote on a slightly altered deal is possible but the language from her opponents isn't encouraging."

But, according to Juckes, the decline in the Pound-to-Euro exchange rate could well be limited as he argues what is bad for the Pound regarding Brexit is also bad for the Euro.

Indeed, the Euro appears to have suffered some Brexit angst of its own against the U.S. Dollar having ceded a bright start against the Dollar on Monday to end the day lower.  

"The Euro's brighter start yesterday was reversed as Sterling dragged it down," says Juckes, adding:

"This is why EUR/GBP is still likely to remain range-bound, and Sterling's trade-weighted rate is unlikely to collapse, more likely to go on bumping along the bottom of its historic range."

So what does the bottom of its historic range look like?

The below gives us a view of the Pound Effective Exchange Rate index from the Bank of England - a trade-weighted measure of Sterling value:

Pound to Euro effective exchange rates

Importantly, the above suggests Sterling can still fall to the lows suffered following the EU referendum in 2016, and still respect the recent ranges.

The Euro is heavily weighted in the Effective Exchange Rate measurement of Sterling, therefore any move lower in the Effective Exchange Rate would likely reflect a move lower in the Sterling-Euro exchange rate specifically.

Pound to Euro historical ranges

We must therefore be on guard for any declines to previous lows should a break of the 1.10 support area break.

However, it is notable that the exchange rate is very uncomfortable going below 1.10 and we would suggest the pair would recover from any dips in the current environment.

Mazen Issa, Senior FX Strategist with TD Securities, says the Pound should remain relatively supported against the Euro around current levels.

"GBP volatility will remain a fixture of FX markets," says Issa in a client note, adding however, "it is interesting to note however that despite the negativity surrounding Brexit, the EUR has been less perturbed, suggesting that EUR/GBP should remain fixated around 91c in the meantime.

EUR/GBP at 0.91 gives a Pound-to-Euro exchange rate of 1.10.

We can meanwhile report that consensus estimates for GBP/EUR have been raised for the 3, 6 and 12 month timelines. We recommend downloading the 2019 exchange rate forecast report from Horizon Currency to see where over 50 of the world's leading investment banks and financial institutions are expecting GBP/EUR to trade through 2019.

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Bank-beating GBP/EUR exchange rates. Get up to 5% more foreign exchange by using a specialist provider to get closer to the real market rate and avoid the gaping spreads charged by your bank when providing currency. Learn more here