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Pound Sterling Forecast to Recover by end-2020 as 'No Deal' not Inevitable says BNP Paribas

- GBP to recover to 1.15
- BNP Paribas says 'thin' EU-UK deal to be agreed
- However, GBP to fall further near-term

Pound Sterling note

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The British Pound is being tipped to rise and recover its recent losses before the end of 2020 by international investment bank and lender BNP Paribas, however not before falling further in the near-term as Brexit-related anxieties build up once more.

According to the Paris-based bank, the Pound should benefit as the EU and UK step back from the 'brink' of falling into a 'no deal' trade relationship before the end of the year and strike a 'thin' trade deal that can allow Sterling to rise, given that the incentive to reach an agreement remains significant.

"We do not think that the latest developments mean that no deal is now inevitable," says Paul Hollingsworth, Chief UK Economist at BNP Paribas in London.

Relations between the EU and UK have deteriorated markedly over the course of the past week with the UK putting forward legislation that would seen to override elements of the Withdrawal Agreement it signed with the EU late in 2019. The significance of the legislation can't be understated as it would effectively see the UK breaching an international treaty, as well as 'poisoning the well' with the EU and diminishing the chance of a deal being struck.

"It may also be the case that it thinks the chances of a deal are slim – and so there is not much to lose from this brinkmanship," says Hollingsworth.

Sterling bore the brunt of the market's growing anxieties that a 'no deal' outcome to trade negotiations was looming, with the Pound-to-Euro exchange rate falling 3.72% last week, the Pound-to-Dollar exchange rate fell 3.62% while the Pound-to-Australian Dollar exchange rate shed 3.56%.

Pound is 2020s worst performing currency

Above: GBP is 2020's worst performing currency.

Despite the rising tensions and stress in Sterling markets, BNP Paribas says there remains a strong possibility that a deal is agreed. "For starters, there have been occasions in the past where achieving a deal looked doubtful, yet one was eventually reached," says Hollingsworth.

The EU last week gave the UK until the end of September to drop the contentious elements of the Internal Market Bill or they will sanction the UK. The nature of the sanctions is yet to be made clear.

However, Prime Minister Boris Johnson's Government has as of yet shown no willingness to back down to the EU's threats, although there are growing signs that a growing number of MPs from his own party are preparing to vote down the legislation.

The Brexit playbook of 2016-2019 suggested Sterling stands to benefit whenever Parliament is able to stand in the way of the Prime Minister and soften the potential outcome. If this does repeat, then the Pound might recover somewhat if the Government loses key votes on the Internal Market Bill.

 

 

Despite rising tensions, EU and UK negotiating teams meanwhile meet in Brussels this week to continue work on finding a solution.

"There is both political and economic pressure to reach a deal too," says Hollingsworth. "The EU has already signalled a willingness to concede some ground on key issues such as fish and state aid, which could ultimately be sold as a significant ‘win’ for UK negotiators."

BNP Paribas maintain a working assumption that the UK moves to a ‘thin’ free trade agreement by the end of this year.

However, a recovery by Sterling into year-end does not mean that it cannot fall further in the near-term.

"That said, we think that risks have increased this week, and we are now agnostic on the ultimate outcome of the negotiations – no deal is now as likely as a deal, in our view. But the key thing for investors is that we think the news flow is more likely to deteriorate than improve in the near term, meaning that perceptions could grow of the likelihood of a no-deal exit," says Hollingsworth.

"We expect the newsflow is more likely to deteriorate than improve in the near-term. Together with scope for short GBP positions to build," says Parisha Saimbi, G10 FX Strategist at BNP Paribas' London Branch.

With this in mind, Saimbi last week added a new trade to the BNP Paribas strategy portfolio that seeks to profit on further downside in Sterling against the Euro.

They are targeting rise in EUR/GBP to 0.93 which gives a GBP/EUR downside target of 1.0752.

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The trade seeks to offer protection against any further rise in "no deal" risk and broad risk-off sentiment.

"If a deal were eventually to be reached, we expect GBP to rise back toward its medium-term fair value as uncertainty unwinds and as it provides a base from which a more comprehensive relationship could build," says Saimbi.

BNP Paribas hold a base-case view that a Brexit deal will be reached and the Pound-Euro exchange rate will rise to a forecast target of 1.15 with the Pound-Dollar exchange rate forecast to rise to 1.41, aided by broad USD weakness, by end-2020.


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