Pound to Euro Rate Could Fall to 1.1750 Ahead of EU Referendum, Plummet to Parity on 'Out' Vote

One pound for one euro, don’t think it could happen? Don't discount it warn analysts at ABN Amro who have released the latest outcomes from their foreign exchange models in a post-Brexit world.

A worryingly high probability that the electorate will vote for a Brexit is expected to lead to further weakness for sterling in the run up to the referendum.

Accordingly, a recent note from Dutch bank ABN Amro is forecasting the pound to euro exchange rate to dip to 1.1750 which equates to EUR/GBP rising to 0.85.

Against the dollar, sterling is likely to fare poorly with GBP/USD slipping to 1.35.

The above forecasts reflect the base assumption held by ABN Amro, and shared by their peers across the investment banking community, that the UK will vote to stay within the bloc.

However, should a vote for Brexit be cast analysts forecast a potential fall in sterling to parity with the euro!
“In a scenario of a disorderly Brexit GBP/USD could drop to 1.15 and EUR/GBP could rally to 1.00,” says ABN strategist Roy Teo.

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Varying Brexit Scenarios

In the event of the UK leaving the EU, the impact on the exchange rate will depend largely on two factors: how ‘messy’ the divorce is, and what the impact is on the rest of Europe is, in terms of inspiring copy-cat referenda.

ABN Bank Strategists Roy Teo and Georgette Boelle , expect the most likely outcome to be a messy Brexit with no knock-on effect.

The assign this a 15% overall probability. Sterling would fall to 1.00 to the euro and 1.15 to the dollar.

Why should leaving the EU be so messy. According to ABN Amro, both Norway and Switzerland are outside the EU but allow immigration to varying degrees, however, the UK’s probable resistance to a free movement of people is one potential sticking point which would be likely to make negotiations messy.

Another is fierce competition from other member countries seeking a piece of the UK’s large financial sector ‘pie’, especially, as the UK will want to try to keep its EU ‘financial passport’ privileges, which allow its financial services unimpeded license to do businesses anywhere in the EU.

Other Less Likely Scenarios

“An orderly Brexit with no contagion effects on the rest of the EU”, as ABN put it, constitutes the second most likely scenario, carrying a 10% probability outcome. In such a scenario the UK would negotiate better trade terms more quickly than in a messy divorce. EUR/GBP would rise to 0.88 and GBP/USD would hit 1.30.

The other two outcomes carry 5% each and are the same as above except that they would be inflamed by the added impact of knock-on effects to the rest of the EU. This would likely weaken the euro so the relative fall for sterling versus the euro would not be as great.

Disorderly Brexit with Knock-on effects would see the exchange rate fall to EUR/GBP 0.85 and GBP/USD at 1.15.

Orderly Brexit with Knock-on effects would result in EUR/GBP at 0.80 and GBP/USD at 1.25.

Forecast of parity echoes UBS and HSBC

The forecast that the pound will fall to parity with the euro is shared by analysts at two other large banks: HSBC and UBS. 
UBS see a 40% probability of a Brexit, followed by a resulting fall to 1:1 EUR/GBP (or GBP/EUR). In the eventuality of a vote to stay they expect EUR/GBP to unwind to 0.73.

In the run-up to the referendum UBS’s Wraith, sees EUR/GBP rising to 0.83 as concerns ratchet up that the UK might leave, especially given the poor reputation polls have gained following their inaccurate reading of the Scottish referendum:

“Today sterling is probably still a little strong. Opinion polls give us a 40% chance that the referendum result is for the UK to leave the EU. That should mean EURGBP trading at about 0.84,” says Wraith.

According to their quantitative models EUR/GBP was only pricing in a 25% when EUR/GBP was at 0.78 and it should be at 0.84 to properly reflect their 40% probability of Brexit.

Italian lender UniCredit has also commented on the surprising robustness of sterling in the run up to the referendum, arguing, it should be trading at over 0.80 (EUR/GBP) to properly reflect Brexit risks, using volatility in the run up to the Scottish referendum and the general election as models for comparison.