Brexit dynamic GBP negative; concerns on Libor/Hibor spread

Philip Wee, Eugene Leow16 May 2019
    Photo credit: AFP Photo

    FX: GBP to head toward 1.25

    If the third time was not a charm for British Prime Minister May’s withdrawal agreement, it is hard to see how the fourth vote set for the week of June 3 will be any different. The PM is likely to be caught wrong-footed in believing a victory by the Brexit Party at the EU Parliament elections on May 23-26, at the expense of the Conservative Party and the opposition Labour Party, would drum up support for her agreement.

    The fourth vote is significant in two regards. First, a defeat could be the final nail in the coffin for the unloved agreement leaving two options – withdraw Article 50 or proceed with a hard Brexit without a deal. Second, PM May is under pressure to resign. She had first offered in March to step down in exchange for her party’s support of her deal. Tory members are more interested in PM May’s timetable to exit No. 10 and are reportedly considering a no-confidence vote on June 15. Against this background, GBP/USD is at risk of revisiting the sub-1.25 lows seen during her leadership challenge last December.

    Rates: Libor/Hibor spread about appropriate

    The 3M Hibor has risen by 50bps to 2.07% since the trough in late February, in contrast with the 3M Libor which fell by some 10bps over the same period. Tighter HKD liquidity (as measured by the HKD 24bn decline in aggregate balances with the Hong Kong Monetary Authority since the start of the year) and a firm USD are the two key factors driving Hibor higher. While there may be further upward pressure on Hibor in the near term, we think that the 3M Libor/Hibor spread (46bps) is probably appropriate given the recent escalation in China-US trade war.

    If the trade row worsens, an even large premium may be reflected in Hibor and could nudge the Libor/Hibor spread into the 0-20bps range. Notably, the USD has proven to be firm this year and trade tensions have exacerbated this trend. Asian currencies have come under downward pressure and the HKD is also impacted. With the USD/HKD hovering close to the top of its trading band, HKMA may have to periodically step in, automatically withdrawing liquidity from the system. Clearly, this withdrawal can be offset by a similar amount of liquidity injection. In this scenario, we expect the HKMA to lean against the wind and provide ample liquidity into the system when needed.

    Philip Wee

    FX Strategist - G3 & Asia

    Eugene Leow

    Rates Strategist - G3 & Asia

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