Predictable panic as Brexit talks reach a crescendo

Monday, 19th November 2018 08:18 - by Shant

This week's events in the UK have thrown up a number of known unknowns (to steal a phrase) in that the culmination of the Brexit talks have resulted in what most of the commons (or so it seems) deem is effectively a bad deal. 

A bad deal, in this case, refers to one which is worse than remaining inside the EU, and consequently, those MPs who have been urging a second referendum feel their voice carries more weight.  This, however, ignores the fact that any government who succumbs to calling for a second referendum risks damaging its credibility with the electorate.  As we all have recognised, this would mean this (or any) government is questioning the decision of the people.  To be more cynical, it suggests they believe the vote was wrong - so here, have another go!  That would be seen as political suicide, and Jeremy Corbyn has also recognised this and is also maintaining a strong stance against calling for a second vote, despite some of his Labour backbenchers in favour of this.  Vince Cable of the Liberal Democrats seems to be leading the charge, though is falling on deaf ears for now. 

Reading between the lines, however, Theresa May said that if the current deal is not passed, we risk a no deal or no Brexit scenario - the latter pointing to a cancellation of the people's vote?  Who knows.  Everyone has their view and whether one is for a second referendum, and continuing to fight for a better deal, sentiment in the market is warming to the fact that a disorderly exit next year is in no one's interest.  A number of EU leaders - more recently Ireland's PM Varadkar has alluded to this - have suggested that in the absence of a deal being agreed or passed through parliaments either side of the divide, the channels of trade and customs thereon, as well as certain rules on security, airspace and so forth can be agreed on in order to keep disruption to a minimum.  In this instance, there will be clear winners and losers, though depending on these specific discussions, we may yet come out with a deal which develops into something cordial and agreeable on both sides of the negotiating table as well as the split consensus here in the UK.  After all, the pro Brexiteers want to reclaim full sovereignty, while pro Europeans want to maintain ties as close as possible.  The latter naturally focus on issues such as citizens rights, ease of travel as well as the plethora of supply chains which will safeguard jobs on both sides.  Again, who knows, but we could see something between a soft and a hard Brexit develop from this, and no doubt someone will think of a catchy phrase to represent this. 

Starting with the losers, we can assume there is a strong chance that financial services will be left out in the cold.  Given this has been a key concern from the outset, it is natural to assume that on the basis of maintaining the bare essentials can freely flow between the UK and EU (food, medicine etc), that passporting rights will be completely off the table.  UK banks have the most to lose, and London as a business centre will be vulnerable to a loss of business as Euro clearing (for one) will slowly but surely move over to the continent.  On the flip side, the EU will be cogniscent of the fact that competitive taxation will eventually be deployed here in the UK, and to that end, the improvement in the domestic finances could not come at a better time.  Having the financial buffer the chancellor revealed in the Autumn budget will be more valuable than ever.  

The consumer is also expected to be subjected to higher prices through higher tariffs once we transfer to WTO rules, so investors will be wary of retailers importing from the EU as the freedom of imports will not necessarily have any impact on pricing, so UK growth is unlikely to get much of a push from consumption, with staples (such as Sainsburys and Tescos) set to face tougher margins to some degree despite a limited effect on volume sales - we all have to eat!  Higher end and luxury products will almost certainly suffer from reduced demand, though as already stated, it will be a case of defining the destination of imports.  

In the event of a no deal, irrespective of how this pans out, house prices are expected to fall as the migration of 'UK plc' workforce takes its toll on demand.  Supply of housing has been an issue in the UK for some time now, yet unless there is a marked pick up in earnings, it is hard to see how the current level of house prices can match up to affordability at its current levels.  Homebuilders are likely to come under pressure accordingly. 

So who gains? Well, the first obvious sector is the pharmaceutical industry, as we have already noted that the availability of medicine will be on the priority list.  How prices will be impacted is open for debate and will no doubt be put through the party political wringer, but it is safe to assume that this sector will be relatively well protected as it is during periodic economic cyclical downturns. 

As we have alluded to above, FTSE companies with minimal or no exposure to Europe stand to outperform those who do - it is barely worth mentioning, to be honest - though, in anticipation of the worst case scenario, we expect much of this has been priced into the differentials already.  If not, it is reasonable to believe that this would continue. 

In conclusion, and following on from last week, I feel some of the overly pessimistic projections have gone far enough. Indeed, we can see some of this being reflected in the resilience in Sterling.  While the Pound suffered a bad day during Thursday's cabinet merry-go-round, the recent lows held up well, both against the Dollar and the Euro.  While there is more volatility to come, it is worth reiterating the fact that both the EU and the UK have made every indication that they will look to avoid a disruptive exit, come the end of 2020, it is worth considering just how much distress - from Brexit - is priced into the market.  Global factors such as fragile demand the world over as well as (very slow) tightening financial conditions (albeit very slowly) should be more of a consideration for equities in general. 

The Writer's views are their own, not a representation of London South East's. No advice is inferred or given. If you require financial advice, please seek an Independent Financial Adviser.