GBP/USD Weekly Forecast: Get ready for slump as no-deal Brexit becomes a new reality check

 

• Brexit summit ended in disarray with the EU officials said they dropped the plans for any November Brexit summit as not enough progress in talks was made so far. 
• “No-deal Brexit is becoming an increasingly likely scenario,” the journalist attending the European Council meeting told FXStreet.
• The Bank of England Deputy Governor Jon Cunliffe warned of big fall in Sterling on the adverse outcome of Brexit. 
• Technically, the GBP/USD is caught in downward sloping trend with the break below 1.2940 opening the way for August low of 1.2660.
• The FXStreet Forecast Poll turned completely bearish for the week ahead with no single forecaster expecting GBP/USD to strengthen in the week ahead.

The GBP/USD opened the third week of October with the gap on the downside after closing at 1.3142 as the weekend negotiation between the UK Brexit Secretary Dominic Raab and the European Union chief Brexit negotiator Michel Barnier ended in disarray. Sterling short covering saw the GBP/USD close the gap on Monday managed to recover 100 pips to 1.3180.

The key risk event for Sterling during the third week of October was the Brexit summit scheduled for Wednesday evening that apart from a collapse of Raab-Barnier meeting saw various European Union officials indicating that the Brexit deal won’t be done in October summit.

The third week of October was packed with the UK macroeconomic indicators that came out mixed. While UK labor market report saw wages rise way above expectations pushing GBP/USD to last week’s high of 1.3236, decelerating UK inflation, retail sales slumping and most importantly Brexit summit ending with no deal saw GBP/USD fall all the way down to 1.3011 on Friday.
 
“The atmosphere at the Brexit summit was very calm as officials acknowledge that no deal Brexit is becoming an increasingly likely scenario, although everyone involved wants the deal to be delivered,” the journalist attending the European Council meeting told FXStreet on Thursday.

The EU officials now increasingly hope for the Brexit transition period to be extended as the current roadmap is not providing both negotiating sides enough time to sort out the details. 

The option of no-deal Brexit raising the FX market volatility on Sterling was one of the topics the Bank of England Deputy Governor Jon Cunliffe raised in his parliamentary speech on Wednesday. “We could see big fall in Sterling depending on the outcome of Brexit,” Cunliffe said the UK parliament’s Treasury committee.

The EU chief Brexit negotiator Michel Barnier said on Friday that problem over Irish border could lead to failure of Brexit talks voicing no interest in hard Brexit.

In the absence of important macro news from the UK next week, the Brexit negotiations related news and the notion of the US economy moving full steam ahead towards gradual rate hikes is set to drive Sterling lower.

Moreover, the technical picture is turning negative for Sterling as the GBP/USD broke below the confluence of important support indicators just below 1.3100 opening was to 1.3000 psychologically important round big figure and further downside at 1.2940-1.2920.

Technical Analysis

GBP/USD daily chart

The GBP/USD broke the important confluence of 38.2% Fibonacci retracement and 100-day moving average near 1.3100 level and now it is moving lower. The board picture for GBP/USD is bearish as all important moving averages of 50-days and 100-days are sloping downwards. Moreover, the daily chart sees Momentum and Slow Stochastics pointing downwards. Should the GBP/USD break below 1.3000 psychological level, the August low of 1.2662 become the next target.

GBP/USD 1-hour chart

The GBP/USD closed the Monday gap on the downside at 1.3085, and after rising as high as 1.3238, it moves lower. The technical oscillators are in the neutral territory on the 1-hour chart, and further potential lays on the downside. Once the GBP/USD broke the confluence resistance of 1.3095 representing a 100-day moving average and the 38.2% Fibonacci retracement of a move from 1.4377 to 1.2662 the currency should target lower levels of 1.3030 and 1.2970 further down. On the upside the GBP/USD the immediate target is 1.3230-1.3250 last week’s high. 

The UK wage growth surprised on the upside in September

The UK labor market proved pretty tight in September as wages rose way above the market expectations while the unemployment rate remained stuck to a four-decade low of 4.0%.

The regular pay excluding bonuses in the rose 3.1% over the year to £492, up 3.1% from a year earlier in three months ending in August, the highest growth rate since October-December 2008.

At the same time, the total pay including bonuses rose 2.7% over the year to £523 per week in, up from £508 per week for a year earlier. Regular pay in the UK rose 0.7% y/y after inflation adjustment while total pay rose 0.4% in real, inflation-adjusted terms. 

UK regular pay development 2006-2018

The UK inflation decelerated sharply

Headline UK inflation decelerated sharply in September with prices rising 2.4% in September compared to 2.8% expected by the market. At the same time, the core inflation stripping the consumer basket off the food and energy prices remained unchanged at 1.9% y/y.

Within the structure of the UK inflation, the prices for clothing and footwear fell by 0.4% y/y while prices of financial services fell by 6.2% on the year. The largest downward contribution to the change in the came from food and non-alcoholic beverages, where prices fell by 0.1% between August and September 2018 compared with a rise of 0.8% between the same two months a year ago. The base effect saw food prices having a negative growth effect in 2018. 

The largest upward contributor to the rate continues to come from transport, with prices rising by 5.5% in the year to September 2018. Prices of electricity rose 9.3% over the year in September.

Contributions to UK inflation in September 2018

The Bank of England Deputy Governor Jon Cunliffe

BOE's Cunliffe said during the Treasury Committee parliamentary committee that when “true Brexit” will be revealed the path clears and there will be possibly large FX market moves. “ We could see big fall in Sterling depending on the outcome of Brexit,” Cunliffe said on Wednesday. 

The legal uncertainty is created by the EU authorities unclear about whether the EU clearing members could continue to meet their obligations to UK counterparties after Brexit. The Bank of England Deputy Governor Cunliffe said that derivatives still need action from the UK and the EU authorities in case of no deal Brexit.

After Brexit, UK financial services regulation will require maintaining a level of resilience that is at least as great as that currently planned. Cunliffe believes that large wholesale banks will be able to operate without discontinuity of service after Brexit with some 5,000 financial jobs in the UK will move immediately after Brexit with more financial services business will gradually move to EU after Brexit. Cunliffe said he estimates  35,000 financial services jobs to leave the UK after Brexit over time. 

“We could see big fall in Sterling depending on the outcome of Brexit,” Deputy Bank of England Governor Jon Cunliffe

In terms of the UK economic development, Cunliffe said that there remains considerable uncertainty about the supply capacity of the UK economy going forward while domestic inflation pressures are strengthening a little but are not yet established at levels consistent with the inflation target. 

Cunliffe said the case for publishing a rate path for UK interest rates is not clear-cut as the MPC cannot be as confident about the impact of unwinding quantitative easing as they are about the impact of increasing interest rates. In terms of the monetary policy outlook, Cunliffe said the Bank of England does not believe in a need to get rates higher in order to have ammunition for the future downturn in the economy.  

Cunliffe expects to see some action on temporary permissions regime by the EU for UK banks. 

Calendar for the week ahead 

The UK economic calendar is very light during the fourth week of October with Confederation of British Industries trends in orders and sales headlining the agenda while Brexit talks are set to continue intensively as November deadline looms.

UK economic calendar for October 22-26

On the other side of the Atlantic, the US GDP and core personal consumption expenditures price index headline the economic agenda. The US economic calendar is complemented with the US durable goods orders due to fall by 2.3% m/m the Commerce Department is scheduled to say on Thursday next week.

US economic calendar for October 22-26

FXStreet Forecast Poll

The FXStreet Forecast Poll turned completely bearish for the week ahead with 1.2919 spot rate for GBP/USD expected in one week time. While last week the FXStreet Forecast Poll expected GBP/USD to reach 1.3202, the failure of the European Council meeting to generate positive outcome on Brexit saw GBP/USD falling lower sharply and convinced the forecasters of a bearish trend to prevail.

For the fourth week of October, the share of bullish forecasts dropped to 0% from the previous week at 56% compared to 92% o bearish forecasts for the week ahead.

Forecasts for 1-month ahead also turned bearish with 62% expecting bearish trend and only 29 expecting bullish trend to dominate. On average FXStreet Forecast Poll is expecting 1.2942 FX rate in 1-month time from now compared with 1.3172 FX rate last week.

The FXStreet Forecast Poll is also mostly bearish for the 3-months ahead with 1.2967 forecast for 3-month time, down from 1.3037 expected last week and 1.2983 two weeks ago. The share of bearish forecast rose to 47% compared with 39% of bullish forecast. 

FXStreet Forecast Poll