Why Is The British Pound Proving So Resilient?

Includes: FXB
by: Discount Fountain

The British pound has proven surprisingly resilient in the face of Brexit uncertainty.

The Bank of England has hinted at a strong series of interest rate rises in the event of a smooth Brexit.

Be prepared for the British pound to potentially deliver a surprising boost to the upside.

Perhaps I am being overly pessimistic on the prospects for the British pound. While I previously outlined my bearish sentiment on the currency, the GBP could be set for more upside than investors are anticipating.

Last month proved a period of significant uncertainty for the currency, with speculation that the United Kingdom could ultimately crash out of the European Union without a deal owing to failure to come to a suitable agreement.

However, we can see that the currency has maintained strength, rising against the USD to 1.309 at the time of writing:

Source: investing.com

The pound has failed to return to levels seen against the dollar pre-Brexit. However, the question must ultimately be asked - just how much will Brexit ultimately influence the pound going forward?

When currencies - or any financial asset for that matter - undergo a shock - it is typically due to a piece of information that the markets didn't anticipate or expect. For instance, when currencies plummeted against the Swiss franc in 2015, it is because no one anticipated that the Swiss National Bank would depeg their currency against the euro on the spot.

Similarly, it was widely unanticipated that Britain would in fact vote for Brexit - resulting in a significant loss for the British pound. This "element of surprise" is largely absent from the Brexit dynamic, in that all contingencies have been prepared for by businesses and governments in so far as is possible.

In fact, I would even say that should we see a contraction in global economic activity as markets have been fearing, the British pound may even take less of a hit than its counterparts. After all, the pound already has the potential to be significantly undervalued at the current level due to short selling as a result of Brexit, while currencies such as the greenback are thought to be overvalued and due for a fall.

From an economic standpoint, the Bank of England has stated that interest rates would rise more quickly than markets are anticipating should the Brexit process conclude smoothly.

Additionally, the Bank of England has also raised GDP growth forecasts, with the Bank predicting over 2 percent growth in GDP in 2021. With the ECB having delayed further interest rate rises, along with the Federal Reserve running out of steam to raise rates further given growth concerns, interest rate rises coupled with smooth growth could well be the catalyst that sends the pound back to pre-Brexit levels against the greenback.

In the current environment, it is highly unlikely that the greenback has the capacity to rise any further, and the euro could continue to remain weak given that quantitative easing is not showing signs of ending on the timeline originally expected. As a result, the British pound is the underdog that could very well be in a much stronger position by this time next year.

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.