Where to now for Brexit as Theresa May heads for the exit door?

This week has seen ups and (mainly) downs for sterling, with the UK Prime Minister’s (PM) last roll of the dice seemingly falling flat despite a moment of madness where markets actually anticipated a deal that could change the state of play. Despite talk of a ‘bold’ offer from the PM, we look set to throw this fourth proposal on the same scrap heap that its three predecessors ended up on. For the most part, the problem has always been the same. Every member of parliament (MP) holds their own red lines to the extent a deal which will appease sufficient MPs and EU leaders simply does not exist.

A deal that appeals to no one

The deal hoped to appeal to both Labour and remainers with the possibility of votes on a customs union and second referendum.

The proposal offers a vote on a customs union – this puts off those who do not even want a customs union to be a possibility, but also fails to go far enough as previous votes have already rejected such a proposal. This fails to win anyone over.

Offer to hold the vote for potential second referendum – again, this is a complete roadblock for pro-Brexit MPs who do not wish to normalise the idea of a second referendum. However, with prior parliamentary votes also rejecting this option, remainers will be aware that such a vote would likely lose.

With this deal seemingly dead in the water, the question is now when rather than if the prime minister will leave her position. Today’s focus will understandably be on the European election, with the results emerging over the weekend. In all likeliness we will see Nigel Farage succeed given the wide dispersion of anti-Brexit votes throughout a host of parties. Thus the pressure is going to be on May to step down in the aftermath of that vote. A look at the order of business for the House of Commons shows that her Brexit bill is not currently listed for debate next week, casting doubt over whether the vote will even take place. For the most part we are looking at two options, she either manages to hold a vote or not. In either case she is expected to end up quitting.

Uncertainty a drag on the pound

For markets, the current uncertainty is reason to sell the pound, with fears over what will come next proving a drag on sterling sentiment. That means that the longer this is dragged out, the further we drift lower. Some are speculating that this could be a 'sell the rumours buy the fact' situation, where her final announcement would herald a resurgence for the pound. There is no real reason for that to happen given the continued clouds that loom over the UK political picture. She may as well be out today, with markets already fully aware that she has one foot out the door. The next volatility is going to come when we gauge the prospects for her successor.

Who will follow Theresa May as the next prime minister?

In all likeliness, May would be replaced by bookies favourite Boris Johnson, who has been biding his time and manoeuvering since the referendum. His questionable diplomatic skills may have come under fire in his role as foreign secretary, yet many see him as the man to deliver Brexit. The big question for markets is where on the Brexit spectrum the next leader lies. Whether it is Dominic Raab or Boris Johnson, markets are unlikely to react well to the appointment that would raise the likeliness of a harder Brexit.

With no clear pathway to a deal that would garner enough support to pass through parliament, the UK would likely move towards that October deadline with huge dread for markets. A Brexiteer leader could put forward a harder form of Brexit, but it would not pass through Parliament. Just as May failed to grab enough votes from her own party, a harder line deal would gather little support outside of that narrow subsection of the Conservatives that have pushed for a harder form of Brexit.

Parliament would never provide a majority for a no-deal Brexit and thus it would only come about from a situation where the EU rejects any extension and no deal is in place at that point. For this to occur, the EU likely have to see no reasonable pathway to negotiating a better deal. With that in mind, remainer Tories could resign the whip to remove the Conservative majority and force a general election. Unfortunately, if the polls look anything like the current standings for the European elections, the Brexit party could force us into a no-deal Brexit.

Would a centrist even avoid a no-deal Brexit?

The decision to appoint a Brexiteer would have obvious pathways to a no-deal Brexit, ramping up GBP weakness. Should the conservatives appoint a more centrist leader, we would be in a similar position to the current standing. They could perhaps try to reignite cross-party talks with a view to finding some form of middle ground, yet such a deal has been proven to carry a low likeliness of success. The Labour party smell blood and are willing to reject almost everything with a view to grabbing control of the country down the road. The SNP want another referendum, as do the Lib Dems. Unless we saw a general election that brings a victory for a coalition of pro-referendum parties, there is going to be risk of a no-deal Brexit even in the event that a centrist Tory took over from May. For the pound, it would at least raise the chance of an extension to the current October deadline.

For the near term, the pathway of the pound is likely to be dictated by what type of candidate takes control of the party. The pathway to a no-deal Brexit seems more obvious for a Brexiteer leader. However, we are likely to see sterling weakness come back into play down the line in either case as we get closer to the October deadline without any progress being made.

Where next for GBP/USD?

The GBP/USD chart below highlights the head and shoulders breakdown seen throughout the past fortnight. With the pair currently challenging the 76.4% Fibonacci retracement at $1.2659, further downside from here would point towards a high likeliness of a break below $1.2435. Such a move would point towards a wider leg lower coming into play as we head back towards the lows of $1.18. Needless to say, things are looking pretty bleak as May makes way for the unknown.