Trump helps pound stage a recovery but GBP still looks fragile

After falling below the key 1.20 level on Sunday, GBP/USD has since staged a comeback, rising to a high of 1.2065. The was partly driven by comments from Donald Trump in an interview with The Times newspaper where he said that the UK was at the top of a list for a trade deal with the US, and that the UK did a great thing by leaving the EU.

Other factors that have soothed the pound this morning include some reassurances from the UK Treasury that it will address investors concerns that may arise from Theresa May’s speech on Tuesday. This “recovery” is also typical after a move below a key technical level such as 1.20 in GBP/USD, and thus may only be temporary.

Signs still point to further GBP weakness

Looking ahead, we think that the pound is likely to remain vulnerable, and, in the short term, the market could once again test the air below 1.20, and the lows from October’s flash crash.  Volatility levels in GBP/USD, as measured by the options market, have risen once again on Monday, taking the 1-month GBP/USD volatility level to a fresh 4-month high. This suggests that investors are expecting further large moves from the pound in the short term.

Why is the pound still so sensitive to Brexit?

Some have wondered why the FX market continues to be “shocked” by news about a hard Brexit, after all the UK’s exit from the single market has always been on the cards and is not a new concept. I would argue that the ‘Brexit theme as bad news for the pound’ is such an ingrained trend at this stage that it really doesn’t matter what May says or fails to say on Tuesday. Instead, it’s all about market dynamics, and right now the balance of market participants are shorting the pound. It’s a bit like a tipping point, once a trend gets critical mass, like the GBP downtrend, then news headlines can have big impacts, as they generate another wave of selling.

Aside from CPI data released tomorrow, the pound’s near term future is in the hands of Theresa May as the FX market’s chief focus is on the UK Prime Minister’s speech at some point on Tuesday. Read our previous post to find out why politics are like Kryptonite for the pound: https://www.cityindex.co.uk/news-and-analysis/pound-slayer-may-takes-gbp-usd-below-1-20/