Brexit’s end-game
Tomorrow Tuesday European Union ministers of European affairs will meet to discuss extending Brexit’s deadline beyond 29 March. Meanwhile, the UK government will for the third time try to pass its ‘deal’ through Parliament. If it passes, the government will ask for an extension to 30 June. If not, a frenzied scramble will start to find acceptable model prior to 29 March. Markets are pricing the deal to pass and the extension to be granted. One month implied volatility on GBP is subdued well off recent highs. EUR/GBP is trading just off one-year lows. Gilts continue to track lower as well.
Traders should remain vigilant in an environment politically charged and fluid. EUR/CHF might be a smarter play. EUR/CHF has been the barometer for Euro-centric risk and the pair still brings a Brexit risk premium (with a weak EU economy, Italian budget and dovish ECB risk). As probability for a UK crash-out fades, investors will reallocate from CHF back into Euro. The SNB will provide no barrier to EUR/CHF strength, giving EUR/CHF upside plenty of space.
USD slides further ahead of FOMC meeting
Since March 8th, the greenback has been trading in one direction: downward. The dollar index, which tracks the performance of the US dollar against a basket of its peers, has lost more 1.30% in the days following the ECB meeting – and Draghi’s infamous dovish speech. On Monday morning, the modd was no different in the FX market, the back continued to retreat against the single currency with EUR/USD hitting 1.1351, its highest level since March 4th. Only the pound sterling was losing ground, thanks to heightened uncertainty stemming from the Brexit deadlock. GBP/USD slid 0.38% to $ 1.3240 during the early European session.
For now, it looks like investors anticipate the Fed would maintain its dovish stance, something with which we agree, and have therefore continued to load on equities. However, we believe that the market is under-pricing a potential massive downside revision to economic forecast. Indeed, the Fed will released an updated version of its forecast and given the lacklustre economic data that have been publish since the December meeting, there is little doubt it won’t be pretty. Therefore, we anticipate that both equities and the buck will suffer this week, as investors will be forced to price in slower economic growth and weaker inflation.
