In the days leading up to the recent EU Leaders’ summit on 15^th October, the UK had been politically posturing with Prime Minister Boris Johnson announcing that the UK could potentially walk away from the negotiation table if substantial progress had not been made by the beginning of the summit. In such an instance, it would make a no-deal scenario a distinct possibility.

Thankfully, this did not come to pass. Instead, we have now received word that EU-UK negotiations have ‘intensified’. The UK’s political grandstanding, during which Prime Minister Boris Johnson demanded a fundamental ‘change in approach’ from the EU, has seemingly been superseded by a new appreciation of compromise on both sides. With EU chief negotiator Michel Barnier now briefing that a deal is ‘within reach’, both sides are hoping for negotiations to break new ground in the coming weeks.

Photo by dylan nolte on Unsplash

Whether or not diplomats are successful in their aim of striking a deal within three weeks, thus allowing adequate time for the implementation of a deal before the formal Brexit date of December 31^st, currency markets have been reacting positively to these new developments.

In fact, the pound staged the biggest rally seen since March; climbing 1.7% against the dollar to trade at more than $1.31 for the first time since September. Although this strong performance was assisted by a weakened dollar, the result of continued US Congressional COVID stimulus talks, the sterling was nonetheless assisted by hope of a Brexit breakthrough.

Whatever negotiators are able to accomplish over the coming months, investors should be prepared for a multitude of eventualities transpiring. Any worthwhile investment strategy should take all future possibilities into consideration, so it’s worth exploring the three ways Brexit talks could go from this point on.

The scenarios

If both sides are able to find common ground regarding the negotiation’s two most contentious issues, namely the ensuring of a ‘level playing field’ and fisheries, then it’s not inconceivable that a deal could be reached in time.

Sterling would likely enjoy a significant rally if such a deal is reached, potentially reaching $1.35 if the UK is, in general, allowed the same single market access it enjoyed previously.

Conversely, a no-deal Brexit could result in a devalued pound. Indeed, we could see the value of the pound dropping to as low as $1.20 against the US dollar if the UK leaves the EU on WTO terms.

The third scenario, the extension of the transitionary period in favour of continued negotiations, would likely be the ‘middle path’ between the two outcomes described above. The pound’s value in Forex markets would probably continue to demonstrate the same level of weekly volatility it has shown throughout 2020. However, given how such a scenario would necessitate a new withdrawal agreement – itself requiring a sign-off from the EU’s 27 heads of state – this seemingly sensible outcome is unlikely to transpire.

Regardless of how negotiations now play out, though, Brexit will not happen in isolation. Multiple other trends and factors are still at play, all of which carrying the potential to dramatically affect the globe’s currency markets.

The world’s pounding

Those with the greatest individual control of sterling’s international value are based at the Bank of England (BoE). Negative interest rates, a contentious policy, has been sitting in the BoE’s ‘toolbox’ since August according to BoE governor Andrew Bailey. What’s more, it’s potential implementation to help spur domestic post-COVID spending would almost certainly weaken the currency’s purchasing power abroad.

Thankfully for those bullish on the pound, recent comments have dissuaded speculation that negative interest rates are likely anytime soon. BoE deputy governor Dave Ramsden said that it wasn’t the ‘right time’ for negative interest rates earlier this week; the comment itself likely partially fueling this week’s aforementioned sterling rally.

Additionally, the UK’s domestic economy may affect sterling’s value through other means: namely declining GDP. The UK’s Q2 COVID contraction was worse than any other major economy in 2020; and although initial figures have since been revised down, it remains to be seen whether the UK’s recovery will be V-shaped, U-shaped, or worse. As government debt soars to new record highs, unless especially prudent fiscal measures are introduced these factors will undoubtedly have an effect on sterling’s purchasing power parity abroad.

Acting with prudence during uncertainty

A fluctuating pound holds more weight for investors right now than it may have during the pre-pandemic era. This is due to an ongoing retreat to cash savings by investors of all kinds throughout 2020, primarily in reaction to the COVID-caused market crashes witnessed in March.

HYCM recently commissioned a survey of over 900 investors to measure this trend, revealing cash as the most popular asset (78%) by a large margin – far ahead of other asset classes like stocks and shares (48%) or property (38%). With COVID-19 unlikely to disappear anytime soon, we can expect further market uncertainty in the coming months – further incentivising investors to stick to cash savings to reduce their risk exposure.

However, doing so in the long-term risks asset depreciation due to inflation. Investors should always be making calculated decisions, not ones based out of fear or worry. There exist numerous safe-haven assets - such as gold, silver, or property – that may be better suited for investors wishing to hedge against further 2020 uncertainty.

So, if investors want to ensure that any Brexit developments don’t negatively impact their portfolios, they should carefully re-appraise the value of having majority-cash savings. If they do so with a keen mindset, while ensuring they remain as informed as possible, then I am confident that – no matter how Brexit plays out – UK assets in general will be able to remain resilient in the coming years.