Brexit has come and passed, now what is to be the fate of the Great British Pound? (NYSEARCA:GBB) Look at the chart of the ETF:
GBB data by YCharts
Wow - this looks like a death spiral. It seems as if it will go to zero, like a public company that has unpayable debts and will finally close. But this is FX, not stocks - it's impossible the GBP will go to zero. In fact, historically speaking, currencies usually recover. Even during periods where currencies trend for a long time, if a currency has a sharp move in one direction, it's likely followed by a partial retracement. Almost always, currencies retrace.
Now, considering that Brexit is a unique situation, and more of a macro / fundamental move - a retracement can take time. And like any trader who tries to guess the retracement, the first necessary point is to establish a bottom - which the Great British Pound hasn't done yet. It's still sliding.
How low can it go? Probably not below 1.25, certainly not below 1.20 - but this is FX, anything is possible.
Chances of U.K. slipping into a recession are higher ahead due to weaker terms of trade and a likely flight of investments on uncertain economic policies. The likes of Goldman Sachs has forecast that the U.K. economy will likely see a "mild recession" by early 2017. Investors should note that the possibility of a slowdown in the economy may lead Bank of England to cut interest rates, leaving no scope for pound outperformance or stabilization in the near term. Definitely, the pound ETF is not a Buy at the current level. But investors having a strong stomach for risk may tap it with a long-term view. After all, all the downside movement in the fund will be capped in fast, in fact over the next few sessions, as investors are hurrying to price in the looming risk in pound. With this, the currency and the related fund may bottom out soon and give way to a reversal.
That by itself isn't a reason will go up, but the pressure is building. Time by time, as the bad news stops coming out, there can be a recovery rally like we saw in the stock market. Because at the end of the day, Brexit changes very little. Britain will renegotiate some trade deals, security agreements, but it's all on the surface. For countries in the EMU (European Monetary Union), leaving the EU would be a lot more dramatic (France, for example). The United Kingdom has continued the use of their own currency, so for them, leaving the EU is just cosmetic (and political). But economically speaking, if anything it should be a long term net benefit for the Great British Pound .
The only thing that can drive lower would be more bad news, or a rate cut, which isn't likely. Carney hinted at summer easing, but practically it might not be a wise move.
If you're looking to close your short position in now would be a good time. It's not clear if it will go lower. But when it finds a bottom, which should be in the next few weeks, it should recover by 38%. That would put at least above 36.
For those who aren't familiar with Forex - there is a pair trading system that means as Great British Pound goes down, other currencies must go up. As explained in Splitting Pennies, the modern Forex system allows only trading via pairs. Forex markets move based on rate changes, which are derived based on real money flows - but when one 'trades' Forex, you're essentially betting on a rate change movement - not exchange currency itself. Forex is more similar to spread betting than equities. But by buying and selling it's the same like buying or selling the Great British Pound.
And don't forget, as we explained in a previous article (and we were proven right), pressure on will also be reflected in Euro. Because a Brexit is ultimately worse for Euro than for Great British Pound, for a number of reasons outlined here.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.