Being on Twitter teaches you a thing or two about the world. First of all, no matter what you do, you will end up offending someone (and often that is a lot of people). Secondly, the world is full of stupid people apparently trying to do brave things but actually they just end up being stupid. And so to Brexit…
Prime Minister Theresa May has got a deal off the EU. I could spend hours talking through the intricacies of the deal, but essentially, the UK will leave the EU, with freedom of movement ended, in a deal that will protect Northern Ireland from a hard border. However, Mrs May is being attacked from all sides, both friend and foe. It is almost impossible to say who is being brave and who is stupid, but in a situation of compromise, everyone has an opportunity to pick holes in a deal that will essentially please nobody. Even press reports in The Netherlands and France are complaining that the EU gave away too much. But from a UK perspective, there are so many voices in Parliament against Mrs May’s deal. So many people either seem to hold “blood-red lines” (the Democratic Unionist Party), have fantasist views on Brexit (hard-Brexiteers), would want to merely scupper Brexit all together (Remainers), or are just plain opportunistic (Labour front bench who want to bring down the Government). The trouble is that these voices all add up to a majority in Parliament ready to vote against Mrs May. Whether she is a realist trying to make the best of a horrendous situation is open for debate.
Accepting reality versus ideology is seemingly a disappointing comedown for many MPs, and they are not happy about it. Brexiteers will be pointing to page 330 (see above) of the 585 page document (no, I have not drunk a shed load of coffee and ploughed through the whole thing) which talks about the fact that the EU essentially has a say in whether the UK can leave the customs union. In other words, Brexit is not actually in the hands of the UK at all, it is a “joint” decision with the EU. However, If you take a step back and look at what could realistically be achievable as a deal from the EU that does not involve a hard border in Northern Ireland, then it looks as though the deal that has been achieved is just about as good as could ever have been in delivering upon Brexit.
The political ramifications are yet to fully play out. UK politics seems to be imploding once again on the issue of Brexit. We look at the key issues and how it is all potentially set to pan out.
Below is an interview that Richard Perry, the Hantec Markets market analyst gave on Bloomberg Turkey on Monday 19th November 2018.
Despite Cabinet accepting the deal on 14th November, it quickly became apparent that there were reportedly nine members who had significant reservations. Government resignations (there are 95 official Government positions) started filtering through early the next day. A junior Northern Ireland minister was first to go, but it was the Brexit secretary Dominic Raab resigning from Cabinet that really put the cat amongst the pigeons. Markets responded quickly, UK Gilt yields fell sharply and sterling fell instantly over 100 pips against the US dollar.
There was then a second resignation from the Cabinet with other Brexiteer leaning ministers such as Esther McVey also tendering their notice, whilst other more junior ministers resigned from the Government as the day progressed. However, the really big guns in the cabinet seem to be ready to back Mrs May for now (although if Penny Mourdaunt another Brexiteer minister does not resign it would be a surprise) and, as things stand, she remains resilient. Say what you like about Theresa May, but her resilience is remarkable.
Parliamentary prospects for the deal:
Having watched the reaction that Mrs May got in the House of Commons on Thursday 15th November, as she presented the deal, it was apparent that it will be almost impossible for her deal to be voted through. Seemingly the vast majority of those MPs that stood up and spoke were against the deal. The 10 Northern Irish DUP MPs that prop up her minority government have already said they would vote against any deal that treats Northern Ireland differently to the rest of the UK (which her deal does).
The graphic below shows how difficult it will be for Theresa May’s deal to get through Parliament.
With the 10 DUP MPs not in support of the deal and around 60 or so Brexiteer MPs seeming against her too (plus other remain leaning Tories) the numbers are massing against her. Therefore, in this highly unlikely scenario of success for Theresa May, the probability of her getting her deal past Parliament is around 20%.
This leads us to a few potential scenarios:
- Another General Election (30% probability) – we believe this is an increasingly possible scenario. A vote of no confidence in the Commons needs a simple majority to pass. Certainly if the DUP votes against the government this would leave the government struggling for a majority. However, then Labour would be given the chance to form a (stable) government, which would again be unlikely. Therefore, the only other option is a new General Election. Opinion polls are neck and neck at the moment.
- A so-called “People’s Vote”, AKA a Second Referendum (15% probability) – This is an incredibly unlikely scenario. Neither Conservatives or Labour have it as a manifesto pledge, so who would lead on a second referendum in the absence of a General Election? It would need to come as a result of one of the main parties offering it on their manifesto (Labour most likely) as part of a General Election. Therefore this is even less likely than the General Election scenario.
- No Deal/hard Brexit (50% probability) – The probability is certainly rising and is increasingly realistic. Even if Theresa May survives a vote of no confidence from her own party, the chances of the deal getting through Parliament is very low. On the assumption that a Parliamentary no confidence vote is averted, this would mean the UK would need to go back to the EU and try to renegotiate again. The trouble is that the EU would never give the UK a better deal that they have now, at least not to the extent that satisfies enough MPs in Parliament. This means that unless Article 50 is somehow extended (it would need all of the EU-27 to agree), then the prospect of a “no deal” scenario becomes increasingly likely, merely on a technicality alone. The UK could leave the EU on 29th March without a deal purely because nothing can be agreed.
- Vote of No Confidence – Before all these scenarios get a chance to play out, Mrs May could face a confidence vote in her leadership (see below).
Vote of No Confidence (times two)
There could also be two acts in this part of the play (is it possible to be a farce and a tragedy at the same time?). The first act could be within the Conservative Party itself, and then secondly in Parliament.
The prospect of a vote of no confidence in Theresa May’s leadership of her own party has increased markedly. The letters are already coming in to Graham Brady for a leadership challenge (Chairman of the backbench 1922 Committee) and if this hits the threshold of 48 (which seems highly likely) then it would trigger a leadership vote, perhaps as early as Monday or Tuesday next week. This is because it needs 15% of the 316 Conservative MPs for the contest to be triggered. Theresa May is reportedly set to fight any leadership battle and would need 159 votes to stave off the challenge (although some commentators are saying that more than 100 dissenting voices would be a number enough to leave her position untenable). If though she wins a vote from her own MPs (which is still seen as likely at this stage) then she cannot be challenged for another 12 months. However, if she loses then there would be a leadership contest (which could conceivably take six weeks… Happy Christmas everyone!) for the position of Conservative leader who would then become Prime Minister.
However, even if Theresa May were to survive, Parliament could also be ready to challenge her with a confidence vote. This would most likely come in the event of Theresa May’s proposed deal with the EU being voted down in Parliament. With the DUP now pledging not to support her, the government is open for a “Motion of no confidence” in Parliament. It would then require just a simple majority to pass “the motion”.
(From the official website parliament.uk)
A successful vote of no confidence would then surely trigger a UK General Election. Happy days, if you are Jeremy Corbyn.
The Impact on markets
Clearly we can see that sterling bulls want a deal. In recent weeks, any newsflow regarding the prospect of a deal has been met favourably for sterling on the forex markets. Sterling rallied after Theresa May announced her Cabinet had accepted the deal from the EU. However, the situation is evolving quickly and it is no longer the prospect of a deal that is driving sterling, it is the arithmetic of Theresa May’s own party and that of Parliament which is key. The issue is that there are so many permutations for markets to consider. Uncertainty is not a friend of sterling sight now.
Sterling fell sharply as the resignation of Dominic Raab broke across the newswires. Further resignations followed and sterling fell further. Why? Because it increases the prospects of two scenarios:
- a hard no deal Brexit
- a Jeremy Corbyn Labour Government
Both would contain significant uncertainties for the UK economy and fiscal position and therefore sterling sold off. However, there was also a significant move into UK Gilts, 10 year Gilt yields fell over 13 basis points, (with yield differentials against US Treasuries similarly sterling negative) on the day Theresa May presented her deal. For now, flow seems to still see UK Gilts as a safe haven UK asset, but for how long? There is an argument to say that Gilt yields would rise in time (although this is not the initial reaction on the uncertainty on Thursday). Perhaps in time, with a socialist, high spend, Corbyn government, there would be a re-evaluation of this view as the fiscal prudence and outlook for debt would need to significantly shift. However, for now, investors are happy to back UK Gilts.
Where could sterling go?
Theresa May would fight a vote of no confidence in her leadership and would still likely win, but the uncertainty in the near term would drive sterling lower. GBP/USD would likely test the $1.2660 support of the 2018 low, but a move towards $1.2500 could be seen if this vote either defeats Mrs May outright or forces her to resign. A vote of no confidence in Parliament in the event that Mrs May fails to pull her deal over the line, would also drive sterling lower, again probably below $1.2500.
In a No Deal scenario we could be talking about GBP/USD around $1.2000 and below. Initial support at $1.2660 is the 2018 low and a breach would really open the downside into the low $1.20s.
This can be all be contrasted with the increasingly unlikely scenario of Theresa May managing to get her deal past Parliament, which would bring GBP/USD towards $1.3500/$1.4000.
Furthermore, volatility on sterling options has increased to its highest levels since the EU referendum in June 2016. Volatility on 1 month and 3 month GBP/USD options has spiked in recent days with traders facing significant uncertainty over how this situation will develop in the coming weeks (and potentially months).
On the technical charts, sterling intraday price volatility is also elevated. Average True Range on Sterling/Dollar has risen to 147 pips and is now the highest since February. This all suggests that trading sterling is increasingly risky now for traders.
As the arithmetic does not seem to back Theresa May’s deal this opens three options:
- No deal
- A General Election
- A second referendum
All three of these situations drive a significant degree of uncertainty. Trading sterling in these days of significant Brexit uncertainty is an increasingly risky game.