How GBP reacted to Boris Johnson’s resignation as PM

Boris Johnson’s resignation as UK Prime Minister provided room for a modest rally in the pound on Thursday, with attention in markets quickly turning to who could replace to outgoing Tory leader as the next PM.

Summary:

• Boris Johnson resigns as UK Prime Minister. GBP posts modest rallies, as potentially ugly removal from office is averted. Attention quickly turns to Tory leadership contest.
• Euro falls to fresh two decade lows as ECB stuck between a rock and a hard place.
• US labour data deteriorates ahead of this afternoon’s nonfarm payrolls report. Slowdown in net job creation expected by markets (268k vs. 390k in May).
• EM currencies stage modest relief rally after battering. BRL and HUF the best performers worldwide.

As had become increasingly inevitable in the 24 hours or so prior to yesterday’s announcement, Johnson officially stood down as Prime Minister just after midday on Thursday. Sterling responded to the news in a positive fashion, and actually posted modest gains against its major peers in response to the initial headlines. Markets were already fully expecting him to go, but news of his resignation, and the avoidance of a likely messy and potentially ugly removal from office, gave the pound a leg up, albeit only a fairly modest one. By the end of the London session, sterling was trading just above the 1.20 handle on the US dollar, and at its strongest position versus the broadly weaker euro since 23rd May.

Attention among traders has now turned to who will replace the outgoing PM. At present, there is no clear candidate to replace Johnson, with bookmakers fairly evenly torn between half a dozen or more candidates. It remains unclear whether a temporary appointment will be made, or if the Tory Party will allow Johnson to remain in charge until his successor is chosen later in the summer. Markets hate uncertainty and will be hoping for clarity and a swift resolution that will avoid a leadership contest that drags on for weeks or months. Bookmakers now see Wyre and Preston North MP Ben Wallace as the frontrunner, although it remains unclear whether his possible appointment, or any other candidate for that matter, would actually result in a meaningful change of policy. We suspect that any changes will be minor, and the impact of sterling will be limited, which we expect to be driven more by ongoing UK recession concerns and Bank of England monetary policy.

Next UK PM [Bookmaker Implied Probabilities]

• Ben Wallace: 27%,
• Rishi Sunak: 20%,
• Penny Mordaunt: 14%,
• Sajid Javid: 10%,
• Liz Trust: 9%

Elsewhere, the euro broke to fresh two decade lows against the US dollar on Thursday. Attention in markets turned to the European Central Bank’s response to the recent sell-off in the euro. A weaker common currency has inflationary implications, and would likely be something that the Governing Council would wish to avoid. While this could entice policymakers to raise interest rates more aggressively than expected in H2, the fragile growth outlook in the bloc, not to mention the increase in peripheral bond yields, puts the ECB in a very difficult spot. We may find out more from ECB President Lagarde later today, who is set to speak at around midday UK time.

Shortly after Lagarde’s speech, investors will have the small matter of the monthly US nonfarm payrolls report to digest. A slowdown in net job creation is widely expected by markets, particularly following a deterioration in recent labour data, notably yesterday’s Challenger job cuts (a 15 month high 32.5k) and initial jobless claims (235k vs. 230k expected). As always, however, this critical data point is incredibly difficult, we would argue nigh impossible, to forecast, so expect a degree of volatility around its release at 13:30 BST this afternoon. 

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