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British Pound sees Downside Pressures Easing, Johnson Wins 1st Round of Leadership Race

Pound Sterling vs. Euro

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- Johnson wins first round of Conservative leadership contest

- Heightened risk of reversal higher in Sterling near-term

- Longer-term support seen down at 1.11

Pound Sterling is beginning to look a great deal more resilient against the Euro, even with the news out over the past 24 hours that parliament has failed in its latest attempts to ensure a 'no deal' Brexit is avoided on October 31.

The Pound-to-Euro exchange rate now looks to be settling into a nest in the mid 1.12s: on Thursday morning the exchange rate is quoted at 1.1231, the week's low is at 1.1193.

The question those looking to buy Euros will be asking is how far any bounce-back can go, and whether it will last a decent amount of time?

Our suspicion is that any strength will be limited in both duration and extent: the 1.17s that we saw in late-April / early-May have certainly passed, and at best some side-ways orientated trade can be expected.

We hear from a foreign exchange strategist that the Euro might struggle to strengthen against Sterling much from here. According to Ned Rumpeltin, European Head of FX Strategy at TD Securities, the 1.1198/1.1180 zone could provide decent support for Sterling "and we would not be surprised to see a correction."

Any correction higher could take the Pound-to-Euro exchange rate towards resistance located around 1.1312 ahead of the 1.1396 region says Rumpeltin who expects any bounces in Sterling as likely to be only "modest" in nature.

This week's nascent recovery in Sterling comes in part on the back of stronger-than-forecast labour market data out on Tuesday which showed wages are growing at their fastest rate since 2008.

The currency meanwhile appears to have fully digested the prospects of Boris Johnson assuming the office of Prime Minister at the end of July.

The Brexiteer's commanding lead in the leadership race were confirmed on Thursday when the results of the first round of the leadership selection process were announced:

  1. Johnson 114
  2. Hunt 43
  3. Gove 37
  4. Raab 27
  5. Javid 23
  6. Hancock 20
  7. Stewart 19
  8. Leadsom 11
  9. Harper 10
  10. McVey 9

The bottom three candidates are now out of the race.

"No major surprises in the first round, relative to public declarations. Switching of support from Leadsom and McVey should help cement Boris' big lead. Race to be the other candidate to take on Boris looks wide open; unclear how Remain wing will consolidate," says Samuel Tombs, an economist with Pantheon Macroeconomics.

How the votes stack up

Image courtesy of Pantheon Macroeconomics.

"Boris Johnson is well past threshold to guarantee him place in two candidate run-off in last round. Thrashed opposition. Very difficult to see how he fails to become prime minister unless he does something truly catastrophic," says ITV Politics Editor Robert Peston.

What matters going forward will be the details on how Johnson intends to tackle Brexit: he wants to renegotiate the Brexit deal, the EU do not. He wants to leave the EU on October 31 at all costs, the UK parliament does not.

In short, there are significant uncertainties ahead which could well spell further Sterling weakness over coming days and weeks.

For now however, the Pound might sit on the sidelines as traders await fresh information.

Indeed, data out today seen by Reuters shows trading in the Pound has fallen sharply since March when Britain delayed its exit from the European Union, with turnover in May down almost a tenth versus a year earlier and activity in the futures market at its lowest since 2016.

Average daily turnover of sterling dropped to $249.5 billion in May, its lowest in 2019, data compiled by CLS, a major settler of trades in the $5.1 trillion-a-day foreign exchange market, showed.

Futures market activity has fallen as the political uncertainty stemming from the Brexit postponement to Oct. 31 and the contest to choose a new British prime minister encouraged investors to sit on the sidelines.

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Selling Pressures on GBP/EUR Ease

Technical studies meanwhile suggest GBP/EUR is at risk of reversing as the strength of the established down-move wanes, with GBP/EUR charts showing a decline in 'bearish' momentum.

The pair made a new low on June 10 at 1.1199 but this was not corroborated by a new low in the Relative Strength Indicator indicator, in the lower panel of the chart below:

GBP to EUR daily

The exchange rate has since recovered back to current levels at 1.1234.

Why is this?

Typically we would want the RSI - which is a measure of momentum - to go lower alongside the exchange rate. However, on June 10 it was actually slightly higher at 26.45, it had in fact hit a deeper trough on June 3 at 26.22.

The phenomenon of the exchange rate making a new low, but the RSI failing to confirm, is called convergence.

Convergence is a sign the downtrend is losing vigour and sometimes an early warning of a potential bullish reversal: could the Pound be about to make a reversal against the Euro?

The 1.1160 level is likely to provide a hard floor of support for the exchange rate and limit loses we believe.

It is where the 78.6% Fibonacci line is situated. This is the percentage retracement level of the previous January - March 2019 up move. It has a significance for traders as a level markets often pullback to, before resuming their uptrend.

GBP to EUR support

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