The pound fell to an eight-week low today while the cost of hedging against big swings in its exchange rate against the euro over the coming month hit a record high, 10 days before Britain votes on whether to stay in the European Union.
Betting markets suggest Britons will opt to remain in the EU but some recent polls have shown the “Leave” camp ahead, creating anxiety amongst investors.
Hedge funds and asset managers are increasingly seeking to protect their exposure to UK markets through derivatives. Data suggests speculators are adding to bets against the pound with short positions at their highest in at least three years.
Many analysts reckon a vote to leave the EU on June 23 would jolt Britain’s economy and send sterling tumbling by 15-20 percent, while a vote to stay would be likely to drive the currency sharply higher.
We expect incoming polls to move the pound more aggressively than before.
If new polls continue to show a tight race between the two campaigns as we approach the voting day, the outcome is likely to become even more uncertain and hence, volatility in sterling is likely to heighten further.
Euro/sterling one-month implied volatility, derived from an option that covers the referendum date and its aftermath, hit 26.3 percent according to data, exceeding the previous record of around 25 percent hit during the global financial crisis in 2008.
The equivalent sterling/dollar one-month implied volatility rocketed to 28.1 percent, close to its 2008 peak of around 29 percent.
That nervousness has seeped into spot rates, pushing the pound back below $1.42 to its lowest since mid-April and 0.6 percent weaker to 1.2525 euro.
The Brexit issue has dominated the market since late last year, driving a decline of more than 10 percent in sterling on a trade-weighted basis between mid-November and mid-April.
Britain’s hefty current account deficit — 7 percent of output in the last quarter of 2015 — makes the economy, and the currency, particularly vulnerable to any pull-back in investment flows.