By Patrick Graham and Jamie McGeever
LONDON (Reuters) - The world's biggest banks were openly considering a fall in sterling to $1.20 on Monday, as fears of recession and banking trauma after Britain's vote to leave the European Union threatened a return to the dark days of the early 1980s.
Charts, on which many in financial markets rely for direction, show clear water between current levels around $1.32 and sterling's all-time low of $1.0350 hit as the economy was recovering from a brutal early-80s recession.
At that point, the average house in Britain cost less than 30,000 pounds, the miners' strike that broke an era of trade union power had just ended and the City was still waiting the 1986 Big Bang of deregulation and electronification.
After a referendum campaign in which banks strove not to step into politics with gloomy predictions for the pound, forecasts for its dollar exchange rate at the end of this year have been cut by up to 30 cents since Friday morning.
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Most analysts agree the euro will suffer along with sterling from a fall in demand and investment as European businesses worry about the fallout of the vote and a Brexit itself, reducing weakness against the single currency.
But the bad news for UK holidaymakers heading to Disneyland this summer, and for importers of globally traded goods priced in dollars, is that there seems to be no escaping further losses against the greenback this year.
"The referendum result has thrown the UK into huge political and economic uncertainty," said Erik Nielsen, Chief Economist with Unicredit in London.
"Sterling dropping to $1.20 or below, a level not seen since before the Plaza Accord in 1985, (is) certainly within the realm of possibility," he said, referring to an agreement between governments to reduce the value of the dollar.
These are unchartered waters for the teams of technical and macroeconomic analysts banks employ to plot the future course of the $5 trillion a day currency market and sell their conclusions to the big financial institutions they service.
Even after the biggest daily fall in living memory on Friday, many analysts are cautious, judging the picture for investors in a moment of political flux is simply not yet clear.
Goldman Sachs and Bank of America Merrill Lynch pointed to sterling stabilising around $1.30 or even slightly higher over the next few months, although they saw risks of more weakness.
"We could see sterling over a 6 month period depreciating 10-11 percent (but) most likely markets are overshooting," Goldman strategist Silvia Ardagna told a call with investors.
The options market that big investment funds use to hedge against or bet speculatively on shifts in the pound still provides for swings of 20 percent in the dollar exchange rate over the next month from here.
"Based on the hit to the UK economy, the outlook for sterling remains weak," said Graeme Caughey, a fund manager with giant institutional investor Aberdeen Asset Management.
"Weaker sterling is a desirable stabilising mechanism. Versus the dollar we see scope for it to fall further, to 1.28."
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Adam Cole, head of G10 FX Strategy with RBC Capital Markets, compared the current outlook to eight past collapses where the pound's value has fallen on average 18 percent. He says each of those sell-offs took on average 23 weeks to bottom out.
Traders say some of the options pricing is a hangover of extreme moves last week and derivatives bets on sterling weakness have pulled back from highs seen last Wednesday.
But they remain at levels that prior to the past month showed the biggest bias for a weaker pound since the 2008 financial crisis.
"A lot of the support (for sterling) we saw on Friday was people who had been short of the pound taking profit," said the head of hedge fund sales with one of the big six banks who account for half of all global currency trading.
"This morning there has been more selling, which I would see as hedge funds and other speculative investors putting the trade back on, betting on uncertainty over the next 1-2 months that will weaken the pound."
Sentiment is expected to be driven by the UK government bond market and the extent of panic on UK and other European banking stocks, with some down as much as 40 percent since Thursday.
Investors bought gilts on Friday morning on expectations that the Bank of England would cut interest rates this year and possibly return to outright quantitative easing to aid growth.
"Essentially to believe the pound will weaken past $1.20 you need to have a view that foreigners will stop funding the UK current account deficit," said Alvin Tan, a strategist with French bank Societe Generale in London.
"At this point we are seeing that gilt yields are falling so there is still demand. The first signs of a broader collapse of confidence will be if sterling continues to weaken and gilt yields start to rise. That will be the warning sign."
(Editing by Peter Graff)
