June 10, 2016
by Deborah Hyde
The ebb and flow of opinion polls on the June 23 referendum and questions about their ability to forecast the outcome continue to dominate sterling trading. The pound has fallen to near a two-month low against the yen and the Swiss franc, while its two-week volatility versus the dollar continues to climb, trading just shy of its peak in 2008.
A referendum is being held June 23 on whether or not Britian should leave the European Union. (Photo: 3dfoto/Thinkstock)
European equities saw outflows for the 18th straight week, Bank of America Merrill Lynch strategists write in a note, citing EPFR Global data. Sterling corporate credit may continue to underperform euro counterparts even if the U.K. votes to remain within the European Union, Bloomberg strategist Simon Ballard writes. Television debates and developments in the migrant crisis could all impact the result, while voter turnout remains a key focus for many analysts.
What's the latest?
Nearly 434,000 people registered to vote after the deadline was extended following technical issues and 525,000 on June 7. That provides a timely boost to the “Remain” campaign, Panmure Gordon analysts say in a client note.
A Times/YouGov poll shows support for Remain at 43% and for “Leave” at 42%, while an online poll shows 48% for Leave, 43% for Remain and 9% undecided, according to an ICM statement on its website.
The What U.K. Thinks poll of poll shows Remain with a two percentage point lead. The probability of a so-called Brexit has risen to 24.4%, according to the Bloomberg Brexit Tracker, compiled by political blogger Matt Singh. Oddschecker.com shows betting odds of a Leave win edging back to 28.9% versus a year-to-date peak of 36.8%.
Hitachi Ltd. says a Brexit would force a rethink of the firm’s U.K. operations, while WPP Plc says it would have to add jobs in markets affected by such an event, such as Spain and Germany. Norway Wealth Fund will remain a long-term investor in the U.K., regardless of the outcome of the vote, Chief Executive Yngve Slyngstad says.
The BBC will host TV debates on June 15 and June 21. The latter may prove to be a key market event, Credit Suisse Group AG says in a client note. The leader of the opposition will answer questions on the referendum on June 20 on Sky News. Campaigns are expected to turn their focus to encouraging the electorate to vote.
Turnout could play a vital role, Jamie Searle at Citigroup Inc. writes in a client note. The lower the turnout, the better it is thought to be for the Leave camp. The closer the turnout is to a general election-type range (normally 60-65%), the better it is generally assumed to be for the Remain campaign, whereas anything nearer to 50% is thought to be beneficial to the Leave side, Bank of America analysts say.
What's the likely referendum outcome?
Remain’s lead in Standard Chartered’s poll of polls is 7 percentage points, suggesting the outcome is still uncertain.
Citigroup analysts said last week they are increasingly concerned about the polls and the implication for domestic political stability after the vote due to growing rancor within the Conservative Party.
Probably a lead of 10 percentage points is needed in the surveys to be certain they’re predicting the outcome correctly, according to SEB. Standard Chartered would review its forecast for declines in the pound, should the poll of polls consistently show a lead of more than 13 percentage points for remain, analyst Eimear Daly writes.
JPMorgan Chase & Co.’s Malcolm Barr says the probability of a Brexit may be a bit higher than implied by betting markets, given the unusually high variance around any estimate of what the mean turnout will be, and the negative skew introduced by the possibility of a terrorist event.
Estimated odds of a Brexit by UBS Wealth Management, Citigroup, IHS, Societe Generale SA and Eurasia range from around 30 percent to 40 percent. Julius Baer cut its projection to 30 percent from a range of 30% to 40%.
What happens if the Remain camp wins?
Even if the U.K. votes to remain in the EU, divisions resulting from the vote could lead to early elections, according to Morgan Stanley analysts.
The bank’s economists say even if the Remain camp wins, slower growth and weaker inflation would push back an interest-rate increase by the Bank of England to early 2017.
Meanwhile, ING Groep NV analysts say if the U.K. votes against Brexit, the BOE could lift rates as soon as November and BNY Mellon analysts note that the strength in the pound after the Scottish referendum faded just hours after the result.
Julian Wolfson, co-head of research & political strategist at Odey Asset Management, says issues are likely to continue even if the U.K. votes to stay and Brexit risks could linger for the British currency.
What happens on Brexit?
A government paper on the process of withdrawing from the EU shows U.K. and union members will have two years to negotiate initially. The period can be extended if all remaining 27 members agree. Much of the debate over a potential exit centers on how easy it will be for the U.K. to sign new trade deals and whether the country becomes a less attractive place to invest.
Bank of America economists say an exit would mean the U.K. would have to renegotiate deals with other regions in addition to Europe and the populist backlash in the U.S. and elsewhere could make new agreements difficult.
A large current-account deficit is one of U.K.’s key economic vulnerabilities, CBA analysts write in note. Uncertainty after a Leave vote could increase risk premiums in sterling assets and investors would want a higher rate of return to compensate for perceived risks or may simply reduce exposures.
Replacing lost foreign direct investment is likely to spur higher risk premiums in a range of sterling assets, BOE Deputy Governor Ben Broadbent said last month. The bank’s monetary policy committee won’t be able to immediately offset all effects of shocks, Governor Mark Carney has said.
Capital Economics says the European Central Bank may need to take further action as such an outcome could cause financial-market volatility and potentially adverse effects on the euro-area economy and the financial sector. ECB Governing Council member Ilmars Rimsevics said the bank is ready to offer euro liquidity via its existing swap agreements if the U.K. votes to leave the EU.
In event of a Brexit, “referendum-itis” will be catching from Catalonia to the Netherlands, while in France it could change the outcome of next year’s presidential election, Wolfson says.
How to trade it? Currencies
GBP/CHF and EUR/CHF downside trades expected to perform well in the event of a Leave vote, while EUR/GBP is seen moving sharply toward 0.70 if voters choose to remain in the EU, according to Goldman Sachs. JPMorgan added a short cash position in GBP/JPY last week. The bank also has a short exposure through a long-standing GBP/USD put-option spread and expects renewed premium to build into vote. Danske Bank advises clients to hedge for a weaker pound against the euro and a weaker euro versus the dollar and the franc.
Finance GBP 5Y tail payer spreads by selling EUR mid-curve payers, Societe Generale strategist Adam Kurpiel writes in client note. Buy 10Y U.S. and sell 10Y Italy or Spain, UBS analysts said in a May 22 note; numerous risks have potential to drive periphery spreads wider, including EU referendum, Spanish politics and possible limits on banks’ sovereign bond holdings. Commerzbank favors cautious stance toward sovereign spreads and SSAs.
Commercial real-estate and house prices are likely to fall due to deteriorating credit conditions if Brexit occurs, while a drop in GBP may boost profit at U.K. asset managers, according to analysts. Amundi has cut exposure to European assets including equities and fixed income, CIO Pascal Blanque says.
Uncertainty before vote has spurred a rise in both equity risk premiums and implied volatility on European stocks versus U.S. counterparts to near-historical highs, Barclays says. Credit Suisse suggests Long FTSE 100 versus FTSE 250 as a Brexit hedge. If Britain remains in the EU, Pioneer Investments sees good buying opportunities on small caps and domestic companies.
To contact the author of this story:
Deborah Hyde in London at [email protected]
To contact the editor responsible for this story:
Anil Varma at [email protected]
© 2016 Bloomberg L.P
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