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Brexit Still a Big Risk for GBP




Negotiations between the European Union (EU) and ex-member Britain over new trade arrangements from next year are at an impasse due to disagreements and the coronavirus crisis, reported Reuters earlier on today, citing diplomats and officials in the bloc’s hub Brussels.


Halted when the epidemic started, the EU’s tortuous Brexit talks with Prime Minister Boris Johnson’s government were renewed a week ago but have quickly hit snags, the article quoted sources as saying.


Moreover, sources reportedly also said “There are plenty of minor technical details where we could find solutions. But on the fundamental goals, each side is trying to achieve - the differences are enormous. Things cannot move without a political push. And it’s missing.”


These latest reports suggesting that progress in UK/EU negotiations on the future relationship has come to a standstill are in fitting with the tone adopted by EU Brexit Negotiator Michelle Barnier when he spoke to the press last Friday (following last week’s negotiations). 


The EU’s Chief Brexit Negotiator, in unusually direct language, said that the talks had left him “disappointed” and “worried” after the UK had refused “to engage seriously” on some topics. 





Shortly after Barnier’s comments, the UK released a statement saying that the EU’s offer on goods trade falls well short of recent precedent in other Free Trade Agreements. Moreover, there remains significant differences of principle in other areas with EU, including on the so-called "level playing field” and on fisheries, on which note "the EU's mandate appears to require us to accept a continuance of the current quotas agreed under the common fisheries policy”. 


Cleary, the EU and UK are just as far apart as they were before the latest round of negotiations. 


Most analysts now expect the UK to ask for another Brextension prior to the end-June deadline, while the UK focuses on tackling the Covid-19 pandemic. 


As to the reasons why; 1) it was always a tight deadline to negotiate a trade deal by year-end anyway, with Covid-19 taking up so much government resources, it will be nigh on impossible 2) PM Johnson has political leighway to delay (most of the country support a delay to focus on Covid-19) and 3) the EU is open to the idea. 


So the key thing now on the Brexit front (and for GBP) is if and when the UK asks for an extension; this is where we see big potential risk for GBP. 


Despite last week’s disappointing outcome in the Brexit talks, GBP has been on the front foot for five straight trading sessions (provided GBPUSD closes in the green today). GBPUSD is only around 200 pips off its April highs, and is over 1000 pips off its March lows. 


GBP’s rally has been driven by a weakening USD (thanks to the Fed) and a general improvement in market risk appetite, which has also seen other risk sensitive FX and stocks rally (again, in part due to the Fed). 


GBP traders appear to be focused on global themes and taking it for granted that the UK will ask for an extension to the transition period and avoid a no deal exit at the end of the year. 


Although we agree that this is the most likely path of events, we think markets are underestimating the probability that the UK and EU will not agree to an extension prior to the June deadline and that the UK will then crash out of the EU at the end of the year. 


Thus far, the Government has been resolute that it will not extend the transition period, and there is a real risk that they will simply not ask for one. If this was to occur, we could see a huge GBP sell-off. 


More likely, the UK government will hold out until the final days of June before eventually agreeing to an extension. In the meantime, GBP will probably be subject to some serious volatility (with a downside bias prior to the extension being agreed). 


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