LONDON (Reuters) - Sterling hit a six-week low below $1.29 on Wednesday before bouncing back above $1.30 as Britain unveiled draft legislation for post-Brexit life, stoking concern that trade talks with the European Union could be derailed.
The text of the legislation - called the Internal Market Bill - acknowledged “inconsistency” with international law and prompted a rapid rebuke from the EU’s chief executive.
It also raised the possibility of Britain exiting the EU single market in four months with no replacement trade agreement in place, analysts said.
Already on the backfoot against the dollar, sterling fell to $1.2885, its lowest level since July 28, after the bill was published.
That came as EU chief negotiator Michel Barnier arrived in London for fresh talks, suggesting to some that Prime Minister Boris Johnson might be trying to goad the bloc into storming out of negotiations.
But after EU sources told Reuters the bloc would not seek a suspension of talks, the pound bounced back above $1.30.
By 1520 GMT, the currency was 0.25% higher at $1.3012.
“It’s the comment we had from the EU not seeking to suspend Brexit negotiations over the internal market bill - that’s what is supporting the market,” said Sarah Hewin, economist at Standard Chartered.
“The issue has been: how will the EU respond? It seems like they regard the bill as tolerable, or that they can work with it,” Hewin said. “But it could also mean the EU just wants the UK to explain its actions first before making a decision.”
Jittery markets also lifted one-month sterling implied volatility to the highest in nearly five months at 10.4%, well above the 12-month contract as the options curve inverted for the first time in five months.
That implies traders see greater risks in the near term.
Graphic: Pound volatility curve -
Jane Foley, head of FX strategy at Rabobank, said the broad move higher in the euro against the dollar too had helped the pound recover against the greenback. Sterling remained down 0.3% at 90.96 pence against the euro.
MORE WEAKNESS, VOLATILITY IN STORE
Britain and the EU have until next month to agree a free trade deal. That would ease the worries of companies who fear disruption at the borders and of supply chains.
But Britain is ramping up preparations for a no-deal exit, pushing sterling more than 2% lower against the dollar since Friday. HSBC said it saw the pound falling to $1.20.
“Quite how the UK is going to agree multiple new trade agreements with partners around the world whilst openly flouting international treaties is a question that (sterling) is answering in resounding fashion in its decline,” the bank told clients.
Jordan Rochester, a strategist at Nomura, pegged the probability of a no-deal Brexit at 40%.
He said the bill’s “notwithstanding” clause – allowing the UK to unilaterally overwrite parts of the agreement - might persuade the markets that no deal was the most likely scenario.
Thursday’s meeting between Barnier and British negotiator David Frost is the next key signpost for markets, Societe Generale strategist Kenneth Broux said.
He predicted more pound volatility “as the EU tries to understand what the UK is getting at with the Internal Market Bill and whether it brings risk of backsliding on the Withdrawal Agreement.”
Reporting by Ritvik Carvalho; additional reporting by Saikat Chatterjee; Editing by Emelia Sithole-Matarise, Kevin Liffey and Andrew Cawthorne
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