Brexit, trade left
12/05/18

●The UK Parliament’s vote on Brexit is scheduled for Dec. 11

●British pound and FTSE-100 have been flirting with recent lows/support levels


 

Here’s a cheat sheet for how traders are likely interpreting key issues swirling around the Brexit agreement that Britain’s House of Commons will vote on next week:

●Northern Ireland “backstop”: Who cares.

●Pharmaceutical regulation: Who cares

●Risk of “no-confidence” vote for Theresa May: Who cares.

At the risk of sounding flip (do Brits say that?), while these certainly are important issues for UK citizens, businesses, and arguably all market players in the long term, they are—right now—less relevant to many short-term traders.

That’s because if you want to distill the Brexit situation to its near-term essence, the widely expected “no” vote in the British Parliament next Tuesday (December 11) would extend the UK-EU divorce proceedings even further, which in turn would presumably put continued downside pressure on the British pound (and, to a lesser extent, the British stock market).1

First, that’s the expectation. Second, if the expectation is correct, how far and for how long a decline? Two hours? A day? Six months? Reply hazy, ask again later, says the magical black orb.

The negative sentiment that has surrounded Brexit uncertainty is evident in the pound’s nearly 12% decline since April, when the currency started pulling back from its highest level (around 1.4400) since Britain voted to leave the European Union in June 2016 (see weekly chart inset, below).

December British pound futures (6BZ8), 10/29/18–12/4/18. British pound price chart. Down pound

Source: OptionsHouse


Prime Minister Theresa May’s odds of getting the EU-approved deal accepted by parliament appear to be slim to none because her government coalition holds only a 13-seat majority; a mere seven defections from her Conservative Party will nix the measure. But recent polling indicates more than 10 times that number of Conservative MPs don’t like the deal.2

The immediate story is that both the pound and the FTSE 100 have been teetering on technical ledges—the currency more so than the stock index. The chart shows the December British pound futures (6EZ8) are now in their third week of hovering just above the August and October lows around 1.2725.

Yesterday the contract traded to around 1.2850, then fell as low as 1.2668 before recovering a little. The move—which represented an intraday penetration of the support level defined by the pound’s August/October lows—dropped the market to its lowest point since June 2017. And although it’s still a long way off, there’s no obvious technical barrier between current levels and the pound’s generational low of 1.2001 from January 2017.

With the pound first reaching the 1.0000-1.2725 level in August, testing it in October, and increasingly pushing down on it over the past few weeks, there’s a good chance that many longs have placed stop-loss orders not too far below it. To some traders, it probably looks like the pound is ready to decisively break this level and maybe take a shot at the January 2017 lows.

Others may see the possibility of a bear trap—a downside break that triggers stop-loss orders, sucks in some new short traders, and then reverses quickly when all the stops are liquidated. If short traders start to panic and scramble to buy back their positions, a “short squeeze” can result in such situations.

Regardless of the outcome of the vote, next Tuesday won’t be the final chapter of the Brexit saga. Subsequent news indicating a new deal could bring bulls charging back into the currency. This perspective also reflects the possibility that the past seven months have priced in a “no” vote, which could explain why the pound hasn’t already definitively broken the support level. In that case, there may be some knee-jerk selling if the measure is voted down, but then what?

In fact, some longer-term pound bulls with deep pockets may consider pushing the market lower in the short-term to trigger those stops—and then flip to the other side of the market to scoop up the currency at discounted prices.

Market Mover Update: Stocks retreated Tuesday after their high-octane up move: Both the S&P 500 (SPX) and Xilinx (XLNX) fell more than 3% intraday (see “When hunters become the hunted”).

Today’s numbers (all times ET): US markets closed in honor of George H.W. Bush. Beige Book (2 p.m.).

 

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1 PoundSterlingLive.com. Chronic Uncertainty to Weigh on Pound Sterling in 2019 as Brexit is Delayed: Handelsbanken. 12/3/18.

2 BBC.com. Brexit: What will happen if MPs reject Theresa May's deal? 11/27/18.