Sterling traders eye vote on early election after big rebound

The British pound edged lower on Friday after a tumultuous week in which it plunged to three-year lows before rebounding strongly as lawmakers voted to block a no-deal Brexit, making a snap election more likely.

The British parliament's upper chamber on Friday approved a bill which aims to block a no-deal Brexit at the end of October by forcing Prime Minister Boris Johnson to seek a delay to Britain's European Union departure. Traders have been expecting the bill to be passed and so the pound remained unchanged on the day as concerns about an early general election lingered. The bill is expected to receive a Royal Decree on Monday.

Looking for ways to hold an election mid-October, British Prime Minister Boris Johnson said he would rather die in a ditch than delay the planned Oct. 31 departure from the EU. "The likelihood that there will be another general election in the UK in the coming months opens up another set of uncertainties for sterling investors," said Jane Foley, Rabobank's senior currency strategist.

UBS reckons that an election is still the most likely scenario and that a no-deal Brexit will be averted on Oct. 31. "We have long been of the view that the U.K. faces an election before the final decision on Brexit is made. We stick to this view, but we now have more uncertainty about the timing," said Dean Turner, an economist at UBS, in a note on Wednesday.

Lawmakers will on Monday hold another vote on a motion on whether to hold an early election. Opposition parties want to ensure that an election does not allow Johnson to lead the United Kingdom out of the EU without a deal next month. Britain's opposition Labour Party will not support Prime Minister Boris Johnson's bid to call an early election in a vote in parliament on Monday, a source in the party said.

By 1530 GMT, the pound was down 0.2% at $1.2313, but still far above the sub-$1.20 three-year lows hit on Monday. It has gained more than 1% this week - putting it on track for its best weekly performance since June. Against the euro the pound dropped 0.3% to 89.73 pence, leaving the British currency close to its strongest level since July 25.

"The main threat to sterling's recovery is if Johnson’s Conservative party were to win with a majority in an early election. They could then overturn the legislation requiring them to ask for an extension, increasing the threat of leaving without a deal," said Mark Haefele, Chief Investment Officer, UBS Global Wealth Management. Haefele predicted that the pound would weaken to $1.15 or lower in the event of a no-deal Brexit.

UBS's Turner sees the pound rallying to $1.30 in the scenario of a Labour-led government. If Labour was to share the majority with other parties, sterling would go to $1.25, he said in the note. While huge uncertainty about the political outlook in Britain remains, investors have taken solace from lawmakers' determination to block a no-deal Brexit that economists say would be severely damaging for the UK economy.

Expectations for sterling price swings in the months ahead have fallen sharply as the risk of a no-deal exit from the EU receded, with implied volatility gauges back to levels of mid-August after spiking to their highest in 2019 earlier this week.

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