FX Flash – Freefall in sterling

by: Georgette Boele

In this publication: A freefall in sterling but also some recovery, but also a recovery. The sentiment towards sterling remains depressed. However, sterling is substantially undervalued

A major development in currency markets this week was the sharp deterioration of investor sentiment towards sterling. Last week, sterling also fell modestly on concerns about the impact of a hard Brexit on the UK. This week these concerns only increased. Over the weekend Prime Minister Theresa May announced that Article 50 will be triggered before March 2017. In addition, the political climate between the EU and Britain became tougher. On Friday morning, sterling fell in a dramatic fashion. According to Bloomberg reports the low in GBP/USD was 1.1841. However, there are also reports that GBP/USD traded on 1.1378. The reasons for the sharp decline remain unclear. However, it is generally known among market participants that market liquidity in sterling is very low in Asian trading time. There are reports of a “flash crash”. Afterwards sterling recovered and GBP/USD moved back to above 1.23. Investor sentiment towards sterling remains depressed. More hawkish political comments from both sides and/or weaker-than-expected UK macro-economic  data could add pressure on sterling in the near-term. However, the net-short speculative positions in sterling on the futures market are massive. At some point in time these investors will take profit on their  sterling shorts, probably at a time when sterling fails to weaken further. If we take purchasing power parity into account, sterling is substantially undervalued.