For the first time, UK members of Parliament have delivered a majority in favor of a deal to leave the European Union. MPs voted by a majority of 329 to 299 to support Boris Johnson's Brexit deal at its second reading, which paves the way for the UK to complete its departure.
But things didn't all go the government's way.
The government lost a vote on the timetabling of the legislation which would mean that it is unlikely that the deal can be completed by the 31 October deadline.
The prime minister announced that the legislation is now on hold; earlier in the day he stated that if this stage of the process was lost, he would pull the bill and seek a general election. At this stage, we take the prime minister at his word, although we are alert to the fact that opinions can change. Our base case of an election before Brexit remains intact.
Under the election scenario, concerns over a no-deal Brexit may return but not to a material extent. If the Conservatives win the election, then they will likely deliver the deal in its current negotiated form. If opposition parties force the government from office, they will likely put a newly negotiated deal to a public vote where no-deal would not be an option. The risks of a no-deal Brexit have fallen substantially in our view.
The likelihood of a Brexit deal risen, but crucially the outcome that investors feared the most, a no-deal Brexit that could have pulled GBPUSD down to 1.12, seems less likely now than at any time in the last few months.
We retain our overweight position in sterling versus the US dollar in our FX strategy. If, as now seems likely, we move in the direction of a general election, we expect GBPUSD to settle in a 1.26–1.32 range. If the Brexit deal eventually passes, we would expect GBPUSD to rally to 1.35.
Market positioning is still quite short according to latest IMM data, so there is still space for a further sterling rebound. Beyond 1.35, we think the air could become a bit thin, as concerns about the long-term trade relationship will come into focus.