Options Markets Indicate GBP Caution Ahead of Brexit-Heavy Week

Markets continue to digest recurrent Brexit risk, with the former UK Attorney General this morning warning that the UK government's Internal Market Bill "risks unconscionable harm". This adds to resistance against the plans to rip up the withdrawal agreement with former PMs Cameron, Blair and Major all expressing their opposition.

As pointed out earlier today, focus turns today on the with the 2nd reading vote, with MPs voting as late as 10 p.m. on the second reading of the bill according to Politico. The government are expected to win this vote easily.

In FX options space, markets are clearly concerned about the risks of GBP weakness, with 1m risk reversals this morning hitting the lowest levels since May despite a more stable GBP/USD spot rate. This is repeated across the front-end of the curve, with the steepest falls over the past week seen in 1m - 3m tenors.

Unsurprisingly then, GBP options activity remains well ahead of average, with GBP/USD downside protection in vogue as over $3 in puts trading for every $2 in calls over the past week. Put strikes at $1.18, $1.2505, $1.27 and $1.28 have garnered the most activity.

Nonetheless, there does seem some remaining underlying positivity among analysts, with Goldman Sachs this morning noting that "it looks like negotiations will continue, possibly in parallel with other legal processes. In this sense, we think the news is incrementally positive. Our base case is that incentives remain aligned for a deal, and so we would fade excessive pessimism in UK assets, although we are conscious we may have further to run"