BNY Mellon: The State Of Play This Morning

14 maart 2019

The political environment

1: UK:

Following the rejection for a second time by the UK Parliament of the negotiated deal with the EU on Tuesday, yesterday saw a fresh defeat for the government . Beyond expressing the will of Parliament even more clearly than before that it does not wish to see a “no deal” Brexit, the most direct outcome of yesterday is that it highlighted how fragile the political environment in the UK now is.

In the aftermath of yesterday’s vote the government released the motion for today’s vote. The motion sets next Wednesday as the deadline for MPs to pass the negotiated deal. If the deal is passed by then then the PM will seek an extension of article 50 until June 30. However, if the deal is not passed by then then the government will seek a longer extension, requiring the UK to take part in the European elections in May. This motion will be amendable.

At present it seems likely that the main motion will have the support of Parliament given that opposition spokesman John McDonnell said this morning that the Labour Party will support a limited extension. However, the main focus will (again) be on the amendments to the main motion. Key amendments will likely center around including indicative votes on the need for a referendum and for a softer (Norway style) relationship with the EU in next week’s proposed vote.

Much attention will now center on whether the 75 Conservative MPs that voted against the withdrawal deal on Tuesday can now be persuaded to support the deal in face of the threat of a softer Brexit, a long extension of article 50 or even a second referendum. It’s worth noting that if all 75 rebels had voted with the government on Tuesday then the deal would have passed by one vote. It is also possible that a small number of rebel MPs in other parties could be persuaded to support the deal if they thought there was a reasonable likelihood of it passing. Equally, some attention will be given to whether the DUP proves more amenable to supporting the negotiated deal in light of events over the past two days.

2: EU27

The messaging from the EU was already clear on Tuesday. A statement on behalf of Donald Tusk, the president of the European Council of EU states, said there was “little more” the EU could do and warned of a “significantly increased” risk of a no-deal exit. He highlighted that any request for an extension would require unanimity among the EU 27 who would “expect a credible justification for a possible extension and its duration”. He stressed the need for the UK to participate in the European elections on May 23-26 if it remains a member state beyond then. This point was also picked up by Dutch PM Mark Rutte who tweeted that “the smooth functioning of the EU institutions needs to be ensured”.”

That message remained very clear last night. In the aftermath of yesterday’s vote the EU Commission (@EU_Commission) tweeted: “We take note of the votes in the House of Commons this evening There are only two ways to leave the EU: with or without a deal. The EU is prepared for both. To take no deal off the table, it is not enough to vote against no deal - you have to agree to a deal. We have agreed a deal with the Prime Minister and the EU is ready to sign it.” In short it is by no means clear that the EU27 would be amenable to an extension.

It should also be noted that for an extension of article 50 to take place it needs all members of the EU 27 to agree. It was therefore interesting to note that in an interview yesterday evening noted Eurosceptic Nigel Farage intimated that he will lobby EU countries to make sure one of them vetoes a possible extension of article 50.

GBP

With 15 days left to run until the day set in legislation for the UK to leave the EU it’s worth pulling together what factors have proved most significant for GBP since mid-November and to consider the current political environment.

1: The average price of GBP since the referendum is around USD 1.3050. This appears the default price in the absence of any clear outcome to Brexit (in any direction) and no immediate time pressure.

2: Prior to yesterday, the days that had seen the highest levels of overnight volatility since mid-November were:

3: The days that saw the one day moves of in either direction of greater than 1% were:

4: Anything else?

January 15 saw a 1% rise in GBP following a hint from the PM that she would be prepared to consider an extension of article 50.

Brief thoughts

It is clear that Brexit rather than anything else continues to be the prime driver of GBP volatility. The key issues driving this volatility have been the question of an extension of article 50, the likelihood of the negotiated withdrawal deal being passed and the political instability of the government. The next few days will likely see further significant uncertainty around all these issues. Given the circumstances this also suggests that moves of a similar or greater magnitude to those already seen could emerge. It is therefore also unsurprising to see shorter dated implied volatility behaving in a very similar fashion to the way it did immediately ahead of the referendum in 2016.