Pound May Slide to a Two-Year Low With a Brexiteer Prime Minister

(Bloomberg) --

The pound may slide to a two-year low if a hardline euroskeptic takes over as U.K. prime minister, according to a Bloomberg survey of analysts.

Sterling could drop more than 2% to $1.24 in the event a Brexiteer who supports a no-deal split from the European Union replaces Theresa May after the contest to replace her starts formally in the coming week, according to the poll. While the survey sees such an outcome as the most likely scenario with a 70% probability, analysts expect lawmakers to provide a barrier against a no-deal exit and prevent a bigger drop in the currency.

The pound’s fortunes have ebbed and flowed since the 2016 EU referendum along with the chances of a Brexit deal. With May stepping down after failing to get her agreement with Brussels through a divided Parliament, some of her leadership rivals are trying to put a no-deal exit back on the table as they seek support from a euroskeptic Conservative Party.

“A PM who supports hard Brexit does not necessarily mean a hard Brexit being materialized,” said Petr Krpata, chief EMEA currency strategist at ING Groep NV. “There appears no majority in the Parliament for hard Brexit and also the PM, when elected, may loosen his or her current hard Brexit stance.”

Candidates including former Foreign Secretary Boris Johnson -- the current favorite -- and former Brexit Secretary Dominic Raab have said they would be prepared to allow a no-deal Brexit in order to make sure Britain leaves the EU by the deadline of Oct. 31. Conservative lawmakers will whittle down the field of 11 hopefuls this month to a final pair voted on by party members.

Other candidates such as Environment Secretary Michael Gove and Foreign Secretary Jeremy Hunt would be open to extending the deadline to leave the bloc again. That scenario was also seen as likely by the 12 in the poll, with a two-thirds probability, and would drive the pound up to $1.30.

The other currency-positive scenario would be for a Tory leader with a softer approach to Brexit, which is seen as less likely at a 30% probability and would also lift the pound to $1.30. The pound has slumped nearly 3% in the past month to trade around $1.27 after a strong start to the year, and saw a record string of losses against the euro in May.

“We now see a rising chance that the U.K. will be compelled to ask the EU for a further delay to Brexit,” said Mark Haefele, global chief investment officer at UBS Wealth Management, predicting that would see the pound trade in a range of $1.28-$1.34. “This would, in turn, raise the probability of a snap general election or second Brexit referendum.”

While most candidates are keen to avoid the Brexit impasse leading to an election, following a drubbing for the Conservatives in last month’s European parliamentary vote, an election victory for the opposition Labour Party is seen as the worst scenario for the pound, driving sterling down to $1.20.

Labour unexpectedly won a by-election Thursday, after bookmakers had predicted a win for Nigel Farage’s pro-Brexit movement. The result came as a further blow to the Tories, who were relegated to third place, having lost votes to Farage’s party.

With the politics already weighing on sterling, the currency will have to contend with a battery of U.K. economic data next week, including an expected drop in factory production. Recent manufacturing and construction survey data have already signaled the economy is close to stagnation, while retail sales saw the biggest tumble since 1995.

Whoever takes over from May will first have to deal with Brussels, which does not want to reopen the divorce talks, with an unchanged parliamentary arithmetic, and the issue of the Irish border that has been an obstacle to lawmakers’ support. These factors are keeping many investors in U.K. assets on the sidelines, and are reflected in the survey seeing the pound anywhere between $1.15 and $1.40.

“The new prime minister will be facing similar problems,” said Jeremy Stretch, head of Group-of-10 currency strategy at Canadian Imperial Bank of Commerce. “The range of expectations and outcomes are pretty broad and wide ranging so it makes it remarkably difficult to predict the pound.”

--With assistance from Hayley Warren.

To contact the reporter on this story: Anooja Debnath in London at adebnath@bloomberg.net

To contact the editors responsible for this story: Ven Ram at vram1@bloomberg.net, Neil Chatterjee, Scott Hamilton

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