FxWirePro: A Run Through On GBP Short Trades Ahead of Eurozone PMIs

This week, PMI indices for Eurozone countries are scheduled (German and French PMIs are due this Friday). Before that, markets will have no impulse coming from data releases.

The 2Q flash GDP releases brought no permanent impulse on the FX market.

The annual rate of UK CPI inflation posted an unexpectedly sharp increase last month, rising to 1.0% y/y in July from 0.6% in June. Market expectations were centred around an unchanged outturn for CPI inflation in July, while our own forecast embodied only a small pick-up, to 0.7%. However, we would caution against assuming that this is the start of an uptrend in UK inflation, particularly with headline inflation set to drop back sharply next month, as the impact of various measures announced recently by the Chancellor, to spur economic activity, take effect.

GBP has been volatile but without any clear trend against core European currencies in recent weeks. The BoE meeting this week constituted a tactical relief as the MPC indicated that negative rates are way down the list of policy options, even though it is not willing to remove

this from its set of policy options entirely. The curve removed a couple of bps of easing but continues to show rates edging down to -5bp by the end of the year.

Hence, GBP has not yet been fully reprieved from the possibility of NIRP and the attendant challenges this would pose for a capital importing currency such as GBP. The near-term drivers for GBP now revert back to tracing the path of the economic re-opening against scattered Covid-hotspots and associated localized restrictions. A key decision for GBP will be whether the Chancellor extends the furlough scheme that is currently due to wind down in October. While facing greater political pressure to extend, fiscal reality may well prevent this and hence expose GBP to a pronounced rise in unemployment that clouds the recovery prospects by comparison with the many countries in Europe whose job-support schemes run to year-end or 2021.

Meantime, Brexit talks have paused without any real evidence of progress having been made. The prospect of a relatively hard Brexit (no-deal or a bare-bones trade deal) is still something that will independently retard the post-COVID recovery in the UK, and hence, in our view, is a reason to stick with a strategic short in GBP.

Trade tips:

Contemplating above factors, we advocated shorts in GBPCHF at 1.2575 levels since mid-January, marked at 5.03%.

Additionally, we think, it is wise to deploy diagonal options strategy by adding short sterling: short a 2M/2W GBPUSD put spread (1.3267/1.28), spot reference: 1.3216 levels.

The Rationale: Observe the 3m GBP’s positive skewness that has stretched towards OTM Put strikes upto 1.28 levels, to substantiate this bearish hedging stance, existing bearish risk-reversal setup remains intact amid minor bids of hedging for the short-term upside risks.
Hence, options traders are expecting that the underlying spot FX to slide southwards. Courtesy: JPM

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