Pollsters can put away their broken forecasting models for another day. But for investors waking up to a UK election result few expected, they are likely to be none the wiser about sterling’s likely direction in the next few hours, let alone the coming weeks and months.
Sterling’s path since the Brexit vote almost a year ago has been a series of repeated downward slides interspersed with occasional uplifts. The prospect of voters depriving prime minister Theresa May of a parliamentary majority took nearly 2 per cent off the pound against the dollar and the euro as the night’s drama unfolded and markets faced up to the prospect of more political uncertainty.
According to Viraj Patel, a currency analyst at ING, a hung parliament that robs the country of political stability was “always going to be the pound’s nightmare scenario”.
Yet as the trading begins in London, the global centre of the currency market, others were wary of forecasting much more pain for the pound. For one thing, they reasoned, the new political arithmetic of parliament may require a new Brexit strategy, one that could even include continuation of the UK’s membership of the customs union and the single market.
While Conservative politicians will be absorbed in recriminations, all investors are focused on is sniffing out what the result means for Brexit. As Stephen Gallo at Bank of Montreal says, Brexit is “factor number one” for determining the pound’s near-term direction. A minority Conservative government implies a “softer Brexit”, he adds, a scenario that points to a firmer pound.
The chance of a minority government was barely given a moment’s thought by investors back on April 18 when Mrs May called this election. They then looked at the polls, saw the prime minister commanding a 20-point lead over Labour leader Jeremy Corbyn and sent the pound soaring from a soggy looking $1.25 to $1.30, convinced she would win an enhanced Commons majority.
An election now would end the political hazard of having to hold an election in 2020, they reasoned, just a year after the deadline for negotiating Britain’s exit from the EU, and make a transition deal more likely. Given a fair economic wind, why couldn’t the pound get up to $1.32?
On Friday morning as results ended in a hung parliament, there are many more questions to befuddle the market, among them, who will now negotiate Brexit for the UK and how long can the new government last?
“That uncertainty is definitely there,” says Simon Derrick, forex strategist at BNY Mellon. A Conservative administration propped up by the Democratic Unionist Party may generate a rally in the pound, on the basis that “a win is a win”. But it will be short-lived and sterling is “going to struggle”.
The most recent guide for determining the pound’s direction was the last hung parliament of 2010-15. Sterling fell more than 3 per cent in the week after the election as Conservatives and Liberal Democrats engaged in horse-trading to form a government. But over the subsequent five months, it rallied more than 11 per cent.
Sterling’s best hope, says Mr Patel of ING, is a working government being drawn up quickly.
“But as the aftermath of the 2010 election showed, the formation of a coalition government is no guarantee that we will see the pound stabilise over the coming weeks,” cautioned Mr Derrick.
The UK is back in the quagmire of political uncertainty, a familiar home since Brexit but no more comfortable for that.