Sterling soared 2 percent against the dollar on Monday, putting it on track for its biggest one-day gain for more than seven years, as worries eased that Britain might vote to leave the European Union at a June 23 referendum.
Campaigning for the vote resumed on Sunday after a three-day hiatus following the killing of a pro-EU lawmaker. Three opinion polls at the weekend showed the “Remain” camp gained momentum, but the overall picture was still of an evenly split electorate.
As bookmakers shifted their odds to reflect about a 25-percent chance of a Brexit on Monday, down from about 40 percent on Thursday, the cost of hedging against big price swings in the exchange rate dropped sharply.
One-week sterling/dollar implied volatility, derived from an option that covers the ballot and the results, fell to about 38 percent, down from a record high of about 50 percent on Friday.
Sterling rose by as much as 2.1 percent to hit a three-week high of $1.4673 before easing to $1.4652, putting it on track for its biggest one-day rise since the volatile depths of the global financial crisis in March 2009.
“The polls have helped reassure the markets in terms of the extent of Brexit risk that needs to be priced,” Bank of Tokyo-Mitsubishi UFJ’s European head of global markets research, Derek Halpenny, said.
“The momentum has changed, and perhaps this is the first sign of what a lot of the polling experts had been suggesting, which is that the ‘don’t know’ portion was going to be crucial and historically there tends to be a shift towards the status quo in the final days before a referendum – I think that’s what the market is reacting to.”
The pound also climbed 1.7 percent to hit a 2-1/2-week high of 77.315 pence per euro.
STERLING SHORTS CUT
Data from the Commodity Futures Trading Commission released on Friday showed net short positions against sterling were down from a three-year high in the week up to last Tuesday, though sterling was falling then and Brexit fears were on the rise.
“I can’t imagine that in today’s environment there’s a huge amount of speculative appetite going into the vote,” Halpenny said.
The Brexit issue has dominated sterling’s movements since late last year, driving a decline of about 8 percent on a trade-weighted basis since mid-November.
Britain’s hefty current account deficit – 7 percent of output in the last quarter of 2015 – makes the economy, and the currency, extra vulnerable to any pull-back in investment flows.
“Our estimates suggest a compression of the Brexit risk premium by around 3 percent since last Thursday, from 5 percent to 2 percent currently,” ING strategist Petr Krpata wrote in a note to clients.
“Following the large sterling moves over last two days and limited risk premium priced in at this point, sterling now looks more vulnerable to negative surprise from the polls.”