The upcoming general election in the UK on 7 May is likely to be a source of GBP weakness and volatility. Polls have been relatively stable suggesting that the election is unusually open and there is a very high risk of a hung parliament.
Previous elections suggest that a Conservative win initially could be negative for GBP. This tendency could be even more evident this time due to the prospect of an EU referendum. In contrast, a Labour victory may initially be positive the GBP.
Since the April 1997 election, we find that GBP has weakened against the USD in the last two weeks prior to the election day possibly reflecting an increased risk premium being priced into the GBP as the election approaches.
We expect both EUR/GBP and GBP/USD to trade lower in the coming months targeting EUR/GBP at 0.69 and GBP/USD at 1.43 in 6M.
We recommend investors to sell GBP/USD for a 1.42 target with a stop loss at 1.54. EUR- and DKK-based corporates with GBP expenses should hedge their FX exposure via FX forwards while corporates with GBP income should hedge via options that maintain profit potential in the event of further decline in EUR/GBP.
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