The Pound to Euro exchange rate skidded to seven-month lows last week as Theresa May’s gamble to hold a snap election spectacularly backfired, leaving Britain with the uncertainty of a hung parliament.
GBP/EUR Drifted Higher Ahead Of Vote
Sterling ticked higher against the single currency at the beginning of last week’s session as markets bet that Theresa May and the Conservatives would emerge from the election with a majority intact. The consensus view was that May would then be able to focus on agreeing a transitional deal with the EU, without the awkward uncertainty of another general election taking place at the same time as the conclusion of the Brexit negotiations.
The Euro was also dealt a little bit of a blow by a downgrade to the European Central Bank’s inflation outlook. The ECB cut its forecasts for the next three years, with 2017 inflation expectations reduced from 1.7% to 1.5%, 2018 cut from 1.6% to 1.3% and 2019 softened from 1.7% to 1.6%. ECB President Mario Draghi ruled out any further rate cuts, but the cooling of inflation expectations means no near term rate hikes are likely either.
Uncertainty Drives Sterling Lower
However, all of Sterling’s pre-vote gains were erased with one swift blow at 10pm on Thursday evening when exit polls predicted a hung parliament. GBP/EUR plummeted 180 pips to a seven-month low on the news and sustained those losses as the polls were proved accurate and Theresa May lost her parliamentary majority.
Traders are now left with a very difficult situation. On the one hand, many saw the vote as a rejection of May’s ‘hard Brexit’ strategy, but on the other, supreme levels of political uncertainty make any plans to buy into the Pound unpalatably risky.
What Next For Brexit?
Dark mutterings among political rivals within the Conservative party suggest that the PM may have to pursue a softer approach to Brexit negotiations, perhaps even retaining access to the single market. This would likely boost business morale, growth prospects and demand for the Pound. However, this is just one possibility, and it is a long way off materialising.
Indeed, Brexit secretary David Davis intimated on Monday morning that despite the vote, which was seen as an attempt to gain a strong mandate for Brexit, there has been ‘no change’ to the government’s plans to leave the single market and walk away with no deal if a suitable deal is not agreed.
This leaves GBP/EUR susceptible to further losses in the short term as political instability will undoubtedly deter investors from returning to Sterling. The only thing that could give the Pound a significant boost at this point is a clear signal from the government that it will attempt to remain in the EU single market.
Data Driven Trading Unlikely
There are a number of high profile UK ecostats due for release this week but they are likely to take a back seat to political concerns. UK inflation is tipped to remain at 2,7%, unemployment is predicted to hold steady at 4.6% and the Bank of England is unlikely to alter policy. Sterling could, however, suffer further falls if the BoE opens the door to additional quantitative easing in response to heightened levels of political and economic uncertainty.