Pound-Dollar Recovery at Risk from Westminster's Divisions says Bank of America 

© Lee Goddard / Number 10 Downing Street 

- GBPUSD stable but Brexit risks rise, threatening bullish outlook.

- Bank of America says 2019 forecast "challenged" as GBP withers.

- Market now close to Bank of America's GBP/USD walk-away level.

The Pound was steady against a softer U.S. Dollar on Monday but hopes of a steep and protracted rally in the months ahead may be beginning to fade if the latest analysis from Bank of America is anything to go by.

The clock is ticking down to the October 31 Article 50 deadline, parliament is as divided as ever over the UK's exit from the European Union and Prime Minister Theresa May is now under relentless pressure to resign. 

Calls for Mrs May's resignation have increased ever since opposition leader Jeremy Corbyn withdrew from cross-party talks aimed at agreeing a particular style of future relationship with the EU, citing irreconcilable policy differences. 

This has seen the market's focus return to the prospect of an accidental 'no deal' Brexit happening in October because May's successor is widely expected to a Brexit-supporting one, so may not be willing to entertain the kind of relationship the PM has proposed or any further delay in the process. 

"We remain optimistic on a Brexit deal this fall, but our bullish GBP view is being tested and uncertainty remains high," warns Kamal Sharma, an FX strategist. 

Above: Pound-to-Dollar rate shown at daily intervals.

Bank of America analysts have been betting on a steep rise in the exchange rate in 2019 and into the New Year for some months now, telling clients back in March that a recovery of Sterling's entire post-referendum loss should be possible by year-end as parliament would increasingly wrestle control of the Brexit process from government. 

That wrestling of control was supposed to culminate in a 'soft Brexit' agreement before year-end, which would leave the UK within or under the wing of EU institutions such as the customs union and single market, thereby mitigating some of the economic damage that many say an EU exit will cause.

"Our base case had been a deal like PM May's passed in 1H 2019 relieving uncertainty and allowing GDP growth a brief sugar rush in 2020. That has not transpired," says Robert Wood, an economist at Bank of America, in a recent note to clients. "We still believe a deal is most likely, but not by much."

Most analysts have said that a no deal exit, which would see the UK leave the EU and default to doing business with it on World Trade Organization terms, would send the Pound-to-Dollar rate beneath the 1.20 threshold.

Some say the Pound-Dollar rate would fall as low as 1.15 while others are eyeing a decline to 1.10.

In order to avoid this MPs must either vote for PM May's proposed method of exit, which is set out in the EU withdrawal agreement, or revoke the Article 50 notification that set the ball rolling on the exit process.

The EU says it won't renegotiate the withdrawal treaty so if parliamentary support for it looks beyond reach then it's far from certain the bloc would agree to any third request for an extension of the Article 50 negotiating period.

PM May intends to put her EU withdrawal agreement to a fourth and final vote in parliament on June 04, although this last roll of the dice is still widely expected to result in another rejection by MPs. 

Above: Pound-to-Dollar rate shown at weekly intervals.

"Our growth forecast is higher in early-2019 on strong 1Q, but weaker thereafter because: a) we now assume no resolution of Brexit uncertainty by end-2020; b) we assume US-China brinkmanship lasts until at least end-June. So we remove the 'Brexit deal dividend' - the growth acceleration into mid-2020 - we previously assumed," says Wood.

Bank of America slashed its 2020 UK economic growth forecast to 1.1% this week, from 1.6% previously, to take account of a likely more protracted period of uncertainty. But the bank didn't say exactly what it thinks will have become of the Brexit process by that time.

Slower growth and more protracted uncertainty over the economic outlook is expected to prevent the Bank of England from raising its interest rate this year, although Wood and the Bank of America team still forecast a rate hike to 1% in May 2020.

This slower interest rate path, as well as the ongoing threat of a no deal Brexit, are threatening Bank of America's forecast that the Pound-to-Dollar rate will rise to 1.45 by year-end.

The forecast accompanying trade recommendation remained in place this week, but Bank of America's confidence might be waining and the market is already close to the 1.26 stop-loss that came with the March recommendation to buy at 1.3090 and target a move up to 1.45.

The Pound-to-Dollar rate was quoted 0.29% higher at 1.2742 during the noon session Monday and is now up just 0.02% for 2019, after having traded at one point in February with a year-to-date gain of more than 5%. The exchange rate has dropped -1.8% in May.


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