GBP/USD nosedives as contentious Brexit talks to nowhere resumes

Written by: Crispus Nyaga
May 11, 2020
  • The GBP/USD pair declined today as the third round of Brexit talks kicked-off.
  • Analysts, bookmakers, and hedge funds believe that the UK and EU will not reach an agreement.
  • The pair also dropped as the market reacted to Boris Johnson's reopening proposals.

The GBP/USD pair declined sharply as the market reacted to the new talks on Brexit and Boris Johnson strategy to reopen the economy.

Brexit talks
GBP/USD falls on Brexit and reopening plans

Third round of Brexit talks resume

The third round of Brexit talks started today as the European Union and the UK attempts to create the region’s free trade agreement.

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The market believes that the transition period will end without a deal because of the key differences that started to emerge even before the negotiations started. Indeed, data from the Commodity Futures Trading Commission (CFTC) showed that the net positioning of nom-commercial players in the futures market declined to the lowest level this year. This happened as speculators such as hedge funds increased their short positions to 12,000 contracts, in the week ending on 1st of May.

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Key Brexit divisions between the UK and EU

The GBP/USD pair has reacted to several divisions between the two sides. First, on fisheries, the UK has said that it will seek control of its territorial waters, a measure that the EU rejects. Fishing is an important issue because European fishermen get more than 50% of their fish from UK waters.

Second, according to David Frost and Boris Johnson, a Canadian-style trade deal will be the best way forward. The deal removes most quotas and tariffs from Canadian goods. On its side, the EU has rejected this, saying that the Canadian deal works because of its geographical location. According to Michel Barnier, applying the same deal to the UK would create an uneven playing field for European firms.

Third, there have been differences between the size of the two sides. Whereas the UK wants to be seen as an equal partner, the EU rejects this characterisation. In a statement, Barnier said that the negotiations were between a “market of 66 million consumers and EU’s 450 million.”

Finally, there are differences on judicial co-operation. On its part, the UK says it wants to walk away from the European Court of Justice and the European Convention of Human Rights. The EU has rejected this because it will lead to an uneven trading ground between UK and EU firms.

At the same time, the GBP/USD pair is reacting to the fact that the UK has refused to commit to request an extension of the transition period. According to the transition agreement, the country has until June 30 to ask for this extension. As a result, the EU has accused it of trying to run the clock. In a statement, Barnier told Bloomberg:

“The U.K. didn’t wish to commit seriously on a number of fundamental points. The U.K. cannot refuse to extend the transition and at the same time slow down the discussion on important areas.”

Meanwhile, gamblers at Smarkets have increased their odds that the UK will not ask seek to extend the transition period.

Gamblers bet on no extension
Gamblers bet on a no-Brexit extension

GBP/USD reacts to Boris Johnson reopening plans

The GBP/USD pair also declined because investors are increasingly worried about the lockdown. In a statement yesterday, Boris Johnson said that the country will start reopening soon. He asked those people who cannot work from home such as builders to go back to work.

In the second phase of reopening, the government will allow some primary schools to resume classes on June 1. Also, the government will start putting foreign arrivals in quarantine.

Analysts believe that this is the wrong approach because the number of coronavirus cases are still rising. According to Worldometer, the country has more than 219,000 cases and more than 31,000 deaths. This makes it the fourth country in terms of infections and the second in terms of deaths after the US. Just over the weekend, the number of infections in countries like Germany, South Korea, and China started to rise, which is a dangerous sign for the UK.

Therefore, there are chances that the UK economy will slide into a deeper recession than what most analysts are expecting. Just last week, data from Markit showed that construction and services PMI dropped to record lows. Also, the Bank of England warned of a major recession, when it delivered its rates decision last week.

GBP/USD technical outlook

GBP/USD technical outlook

On the four-hour chart, we see that the GBP/USD pair dropped to an intraday low of 1.2287 today. We also see that the pair has formed two head and shoulders pattern, with the neckline being at about 1.2251. Therefore, I expect a move below this level to push the pair to the 38.2% Fibonacci retracement level of 1.2170.