We are heading into the final two weeks of a roller coaster year. In years gone past, most market participants would be winding down at this time of the year. This year is very different; many investors and traders alike are reacting to the ever-changing conditions in the markets, news flows and the virus situation, with most economies going into fresh restrictions and lockdowns due to the latest wave of Covid 19 infections surging across the world. The resurgent virus has caused central banks and governments to be stuck in a conundrum on how to protect the health of their citizens whilst not decimating the economy. A second round of fiscal stimulus – or expectations thereof in the case of the US – have rejuvenated risk assets and equity markets, which are sitting at or near all-time highs. Likewise, central banks that met this week have re-assured investors that they are ready to provide more assist if needed. Yet, at the same time, there is hope – hope that this will all be over soon with the recent development and now the rolling out of coronavirus vaccines in the UK and US.
Look ahead
So, global risk assets are heading into year-end in jubilant mood with the optimism of a deal on the US stimulus package as well as recovery hopes on the back of vaccine rollout and are once again ignoring virus-linked lockdowns. Mainland Europe looks set to start disseminating the virus shot soon. There’s hope that the global economy will suddenly kick start as confidence returns. This is why value stocks, crude oil and industrial metals have all rallied sharply in recent weeks and I expect that trend to continue, unless something fundamentally changes or a major risk-off event occurs.
Brexit: few hours remain to strike trade deal
One such risk is the possibility of talks breaking down between the UK and EU completely. After extending negotiations last Sunday, we are no closer to finding a common ground. Both sides in Brexit talks have warned that progress has hit another snag. Just a few hours remain to find a deal, according to the EU's chief negotiator, Michel Barnier. The European Parliament wants any agreement to be struck by Sunday night, latest. Otherwise, MEPs will not have enough time to ratify the deal. Meanwhile the UK government has said MPs could be recalled to the Commons if there is an accord, with PM Boris Johnson saying that we want to keep talking if there is a chance of a deal, but the EU must respect us as a sovereign nation, and we want to control our laws and waters.
With the Brexit transition period due to end on 31 December, Brexit talks are going to the wire and I wouldn’t be surprised if the transition period is extended further out, as after all this is what has been happening repeatedly in recent years. Ultimately, a deal is in the favour of both sides and I still think that they will make a last-minute compromise. Still, whatever probability of a deal was at the start of the week, this has now reduced sharply and is reflected by a slightly weaker pound. Sterling could gap at the Asian open on Sunday night depending on the outcome of the talks. So if you hold any positions in the pound before the markets close on Friday, then ensure your take appropriate risk management measures.
What does it all mean for the pound?
Well, it literally is a binary outcome. If a deal is reached, hopefully this weekend, the pound could surge past the 1.35 handle, before potentially heading towards 1.40s. However, as the markets have – since March – been led to believe that a deal was going to be reached eventually, the greater risk is if the UK departs without a deal. This outcome will probably come as a shock and could see sterling get a good pounding, sending the cable possibly down to $1.20. Here is how these potential scenarios will look like on the GBP/USD chart:
Source: ThinkMarkets and TradingView.com
Quiet macro calendar
There is very little on the economic calendar in the next two weeks as data becomes more spurious due to many data providers being on holiday. Holidays will start from Thursday of next week. This means most of the remaining data will be provided in the first three days of the week. But apart from a couple of second-tier data points, such as final GDP estimates for the UK and US (Tuesday) and US unemployment claims (Wednesday) there is nothing too significant to get excited over anyway. In any case, the markets are ignoring data as they look forward to the new year, knowing full well that the latest lockdowns have held back economic activity.