Volatility elevated ahead of May's Brexit speech

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Volatility elevated ahead of May's Brexit speech

FXTM chief market strategist Hussein Sayed comments on UK Prime Minister Theresa May’s has no interest in partial departure which suggests the country is heading towards a hard Brexit.

It’s sterling’s day.

Financial markets are anxiously awaiting the UK Prime Minister Theresa May’s speech later today where she will lay out a detailed divorce plan from the EU.

A lot of reports were leaked since Sunday on what to expect her to say, and the most interesting part is that she has no interest in partial departure which suggests we’re heading towards a hard Brexit.

Traders were very fast to react, sending the pound 1.6% lower on Monday to trade below 1.20. However, the recovery in early Asian trade Tuesday indicates that a lot of the bad news is already priced in, and for the pound to fall substantially lower it requires more than just signs of a hard Brexit plan.

If the Supreme Court decided that May needs to secure the consent of Parliament before triggering article 50, potentially delaying Brexit for a couple of months, this is likely to provide sterling with a boost by unwinding many short positions. Traders should be aware that sterling won’t be a one way play and volatility could be elevated to extreme levels.

On the data front, UK CPI is expected to hit 1.4% in December, up 0.2% from November and 0.5% from October’s reading.

This will not only mark the highest inflation rate since mid-2014 but the pace of inflation escalation is pulling the UK’s real interest rates even lower. Of course, this is going to be a challenge for the BoE, but if it indicates anything, it is that interest rates next move is only upwards, leaving monetary policy with very few options to support the economy if needed.

The safe haven yen is the major beneficiary of the heightened uncertainty over the UK’s hard Brexit scenario and Trump’s policies. USDJPY has fallen for the seventh straight day, and declined by more than 4.3% from its January 3rd peak. The fall in bond yields worldwide will continue to lend some support for the yen, but whenever this trade is over I expect the yen to weaken again.

The US dollar is falling against all its major peers with the index dropping below 101. There’s no fundamental reason for the selloff and I don’t think the dollar’s rally is over yet, but the “Trump trade” has clearly cooled down in the past couple of days as markets still have many unanswered questions regarding future fiscal policies.

Let’s hope we get some answers during Friday’s inauguration.

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