By Saikat Chatterjee and Sujata Rao
LONDON (Reuters) – Financial markets are increasing bets against sterling as Boris Johnson takes over as prime minister with a vow to take Britain out of the EU on Oct. 31 with or without a deal. But negative positions are far from the extremes seen in recent years, leaving the pound vulnerable to another lurch lower.
Johnson’s hardline tone on Brexit in the run-up to landing the top political job has taken sterling 2% lower against the dollar this month, raising the possibility of a pound crash to $1.15 or lower, levels seen last in October 2016.
Various positioning gauges compiled by banks indicate that selling sterling in anticipation of being able to buy it back later at a lower price — “shorting” — is on the rise again after a brief pullback earlier this year.
“We’ve seen consistent demand to add to sterling/dollar short positions. We haven’t seen a five-day period of net buying of sterling since back in May,” said Rob Turner, an FX quant trader at RBC Capital Markets.
He said the market was “heavily short cable”, with RBC’s proprietary index showing a score of minus 45%. Net shorts have steadily increased since April, the index shows.
(For a graphic on ‘GBP positions RBC’, click https://tmsnrt.rs/2yc9Sym)
Shorts hit minus 49% last week as sterling fell to 27-month lows <GBP=D3>.
But compare that to the record minus 100% short in October 2016. As recently as December 2018, the short was at minus 68%.
Clearly, as investors wait to see how Brexit negotiations progress under Johnson, short positioning is nowhere as extreme as it has been on various occasions since Britain voted in a 2016 referendum to leave the European Union.
But it also implies there is plenty of scope to sell, if Johnson’s Brexit negotiations with the EU or parliament dissolve into acrimony, or he calls a new election, or a worsening economy forces the Bank of England to cut interest rates.
“We have purchased some tail risk hedges on the pound around $1.20 and $1.15 levels,” said Alberto Gallo, head of macro strategies at Algebris. “The end game of all this is new elections.”
Proprietary flows data from Bank of America Merrill Lynch shows hedge funds had been selling the pound in the run-up to Johnson’s victory in the Conservative Party leadership contest.
That makes the pound one of the most shorted currencies over the past year, said BAML’s head of G10 FX strategy, Kamal Sharma.
One of the most reliable positioning gauges comes from the Commodity Futures Trading Commission (CFTC) – it shows speculators’ short sterling positions at 10-month highs at nearly $6 billion.
At end-April, just after Britain extended its original Brexit deadline, positioning was neutral.
(For a graphic on ‘GBP positions’, click https://tmsnrt.rs/32KS6jO)
An index compiled by BNP Paribas also shows moderate short exposure to the pound – on a scale of plus/minus 50, sterling currently scores minus 18, the bank said. This has risen from minus 16 last week but back in December 2018, bearish bets reached -33.
(For a graphic on ‘Net GBP Positions’, click https://tmsnrt.rs/2yeeZxH)
Similarly, Millenium Global Investments says its in-house data shows positioning at minus 1 on a minus 5/plus 5 scale.
(For a graphic on ‘GBP positioning millennium’, click https://tmsnrt.rs/2yawPlj)
Analysts acknowledge attractive sterling valuations – it has fallen some 6% since May against the dollar and on a trade-weighted basis it is near 22-month lows.
“Though it makes a long-term good choice due to its cheap valuations, the headline risk of Brexit is what is keeping investors sidelined,” BAML’s Sharma said.
Interestingly though, data from derivatives broker CME Group, shows bank dealers had boosted net long pound positions to nearly two-year highs in the week to July 9, possibly with an eye on the cheap valuation.
Asset managers on the other hand are holding their highest net short levels this year, CME said, noting fund managers’ nervousness that Johnson will tip Britain into a hugely damaging Brexit. His election to the premiership is widely seen to have increased the probability of a no-deal Brexit.
(For a graphic on ‘CME positions’, click https://tmsnrt.rs/2y8HugA)
(Reporting by Saikat Chatterjee and Sujata Rao; Editing by Frances Kerry)