Conflicting Brexit reports see Sterling yo-yo

Today's news headlines:

• ‘Raab presses May for hard line on Irish border’. The Brexit Secretary wants rights to pull the UK out of the ‘backstop’ plan with just three months’ notice. (Financial Times)
• ‘Theresa May's chances of striking Irish border deal “50-50”, say EU officials’. EU and British red lines remain incompatible as negotiations enter the final stage. (The Guardian)
• ‘Euro-Area finance chiefs to talk Italy as sanctions threat looms’. Eurogroup to discuss Italy’s budget at a meeting in Brussels. (Bloomberg)

It’s been a very turbulent start to the trading week for Sterling through the overnight Asian session. Conflicting lines on how close the UK is to reaching an agreement with the European Union over Brexit sit at the heart of the volatility. The consensus here should bolster the Pound’s fortunes, with tomorrow’s cabinet meeting having the potential to be a pivotal moment in the saga.

The picture is further clouded by other significant events which are looming. An escalation of the stand-off between Italy and the European Commission over Rome’s budget plans could cause volatility in the short-term. Anything that hints at Italy being painted into a corner would likely prove damaging for the common currency. Across the Atlantic, tomorrow’s mid-term elections in the US are also at the front of investors’ minds. This is essentially a referendum on Donald Trump’s first two years in office. If he loses control of the House of Representatives, then the potential for political inertia may dampen some of the recent demand for US assets and in turn, reign on the Dollar’s run.

Sterling may be enjoying something of a bounce right now, but the release of the UK Services Purchasing Managers’ Index (PMI) data at 9.30am GMT this morning could see at least some of this optimism being knocked out of the market. A month-on-month decline is forecast, and although there’s little reason to believe the break-even 50 mark will be tested, a significant dip would give room for some profit taking.

The US economy is certainly in far better shape than the UK’s—something which was reinforced in Friday’s employment and average wage data. Today sees the publication of the US Non-Manufacturing/Services PMI data at 3pm GMT. After last month’s reading of 61.6, there’s plenty of room for a modest decline without the market taking fright; even if something slightly below the forecast 59.1 is revealed, it’s unlikely to generate any meaningful Dollar weakness. The focus instead is likely to remain very much on the outcome of tomorrow’s mid-terms.

There’s little economic data expected from the Eurozone today, but the meeting of Eurogroup finance ministers is set to address the Italian budget situation. Rome still has just over a week to respond with a revised proposal, but the official government line is there’s no Plan B, putting the two groups on a collision course. This chapter still has a significant way to go, but it’s difficult to see how Italy can pursue a deficit-busting approach in a bid to reignite domestic growth, while shackled by the rules of Euro membership.

GBP/USD

After ‘gapping’ almost a cent higher at the open, the pair has sold off a little, although support remains very much in evidence. Optimism over Brexit and the prospect of gains for the Democrats in tomorrow’s mid-term elections may continue to favour Sterling, at least in the near-term.

EUR/USD

It’s been a more stable start to the week for the EUR/USD pair, although the common currency did briefly jump higher in early trade, supported by read-across from the Pound. Next steps for the Italian budget issue and election results from the US tomorrow will have the potential to determine where the Euro goes next. Short-term direction is difficult to call.

GBP/EUR

The Pound has added almost two-and-a-half cents on the Euro since the middle of last week, underlining the fact that the currency will likely see ever-increasing levels of volatility as the final stages of the Brexit are completed. This latest reaction underlines the idea that a no-deal scenario would leave Sterling badly exposed on the downside, which is why apparent progress—and maybe a little less political risk in the government—is at last providing support.