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Stay short on sterling; markets haven’t fully priced a clean Brexit: Nomura


British pound coins can be seen next to American Dollar notes.
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British pound coins can be seen next to American Dollar notes.

Sterling is set to enter a volatile period as British Prime Minister Theresa May gets ready to trigger Article 50 and kick off the Brexit process.

The way to navigate Brexit is by staying short on the pound, Nomura said in a note.

"Find all the positives you can for why you should be long GBP and one by one cross them out if they aren't good enough to offset the negatives. The day you find it to be a more balanced pros/cons list will the day you switch long GBP, but we are not there yet," Nomura warned on Friday.

One of the main factors affecting sterling is the risk of a 'hard Brexit', which would mean that the U.K. would leave the EU without any agreement and raising all sorts of uncertainty, including on trade and financial services.

According to Nomura this risk is not fully priced in and there are big question marks regarding the future of the City of London and the outcome of an independence referendum in Scotland. These lead to "higher levels of uncertainty and lower growth GBP," the bank said.

But there are other aspects dragging on the pound. "We have not yet seen any clear improvement in the external balance yet. The recent hawkish stances of some of the Bank of England (BoE) members may be an initial sign of the correction, but it is too early to expect the BoE to consider hiking soon. Therefore the undervaluation of GBP should sustain," Nomura said.

Nomura believes that inflation overshooting is not enough for the BoE to raise rates. "It will require much higher levels of wage growth and/or a material pickup in the consumption data to realistically prompt the BOE to hike."

"While GBP is in a short-term uptrend for now, we are still struggling to see a material improvement in the medium-term outlook to justify going long GBP here," it said.

On Monday, the pound rallied 1.1 percent to $1.2609 — the highest level since early February – after President Donald Trump failed to secure a deal to repeal and replace Obamacare.