LONDON (Reuters) – Sterling pared back some gains on Friday afternoon after hitting a 2-1/2-year high versus the dollar as traders sought to add positions in the currency before the weekend on expectations of a post-Brexit trade deal between Britain and the European Union.
Traders ignored reports that the Bank of England could probably cut interest rates slightly below zero.
The high in sterling suggests “the market is positioning itself for a post-Brexit trade deal to be struck over the weekend,” said Simon Harvey, currency analyst at broker Monex Europe.
All eyes were on comments from EU officials, who said on Friday a deal could be done this weekend, despite London saying negotiations were “very difficult”.
The pound was last trading up 0.2% at $1.3469 after hitting $1.3540, its highest since May 2018. It also rose by 0.2% against the euro at 90.14 pence, after reaching a high of 89.84 pence earlier.
Sterling is see-sawing, sometimes wildly, on comments from British and EU officials on the likelihood of a deal as they try to reach agreement before a transition period ends on Dec. 31. The transition period began after Britain’s formal departure from the EU last January.
Traders’ nervousness was reflected in the derivatives market, as one-week implied volatility gauges – derived from the cost of options and incorporating risk posed by an EU summit next week – rose to their highest since March at 13.5%. Two-week vols hit similar levels.
On top of that, a premium for one-month sterling puts over calls – showing downside protection – on one-month-expiry risk reversals is trading at 2.5, its highest since the 2016 Brexit referendum, excluding the rise last March.
Although traders were looking mainly to this weekend for a trade deal, investors are also looking ahead to the virtual EU summit on Dec. 10-11, another possible date for a deal to be agreed. But the sides have missed a number of deadlines and issues such as fisheries and state aid remain unresolved.
Some investors said negotiations could stretch into 2021 even though Britain has repeatedly ruled this out.
“It’s conceivable that they don’t come to any agreement before the transition period ends on Jan. 1 and continue negotiating some sort of trade deal even after the UK has crashed out with no deal,” said Marshall Gittler, head of investment research at BDSwiss Group.
“I expect sterling to remain volatile indefinitely.”