Sterling has a long way to fall, as snap election risk mounts in the U.K.
By Anneken Tappe
The U.K. could be headed to the polls again soon, and downside risk on the British pound, which has already come off its most recent highs, appears to be mounting.
Both sterling and U.K. Prime Minister Theresa May have had an uneasy week, marked by a one-month low for the currency on Thursday following a gaffe-ridden speech by May on the previous day.
See:U.K. leader Theresa May's slogan literally fell apart during her 'disastrous' speech (http://www.marketwatch.com/story/uk-leader-theresa-mays-slogan-literally-fell-apart-during-her-disastrous-speech-2017-10-04)
Pressure is mounting for May to quit her post as prime minister, according to a report by The Telegraph (http://www.telegraph.co.uk/news/2017/10/05/theresa-may-future-conservative-leader-latest-updates/). "Quite a few firmly want her to resign," the paper wrote quoting a member of parliament Ed Vaizey saying.
"There is material downside risk for sterling," said Adam Cole, chief currency strategist at RBC in London. "The risk is almost entirely negative." The thought of May leaving a post that she only assumed in the wake of Britain's vote to exit from the European Union back in late June of 2016 is unsettling for currency traders because it creates uncertainty about U.K. leadership at a crucial time of renegotiations of key trade agreements in the wake of Brexit.
Cole's target for the pound versus the U.S. dollar was in the low $1.20-area. The currency pair traded at $1.3133 on Thursday.
"The risk of an election before the five-year term is up is high," according to Cole. Though another snap election in 2017 might be less likely given that there are less than three months left in the year, it could certainly be on the calendar for next year, he suggested.
May called a general election four months ago that was intended to consolidate her political base ahead of the intense post-Brexit-vote negotiations with the EU, but instead it weakened her position and exposed the prime minister to the threat of being ousted.
May managed to retain power thanks to an unlikely coalition (http://www.marketwatch.com/story/uk-election-so-what-is-a-hung-parliament-2017-06-08) formed between her Conservatives and the socially conservative Northern Irish Democratic Unionist Party. After the off-cycle vote was first called last April, the pound surged to a six-month high (http://www.marketwatch.com/story/heres-why-the-pound-surged-to-10-week-high-after-may-called-snap-uk-election-2017-04-18).
After a bout of weakness following that snap election, the pound has since strengthened, reaching a high of $1.359 against the dollar in September--marking the highest level since the Brexit vote last year (http://www.marketwatch.com/story/ballistic-pound-shoots-up-to-highest-level-since-brexit-vote-2017-09-15). That is even though political concerns in the U.K. didn't materially change.
However, hawkish comments from the Bank of England Gov. Mark Carney (http://www.marketwatch.com/story/boe-says-it-may-hike-interest-rates-within-months-2017-09-14), suggesting that a rate increase might come sooner than later, have in part helped investors, at least momentarily, to shake off politics and focus on monetary policy.
"The pound rallied in September on rate expectations," Cole argued. "That is the reason we took our eyes off the ball policy-wise."
That could change--in a hurry--if calls for May's ouster crescendo, he said.
-Anneken Tappe; 415-439-6400; AskNewswires@dowjones.com
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