Financial markets side with Project Fear, two years after the EU referendum

It is two years since the British public voted in favour of Brexit and financial markets continue to approach March 2019 with a degree of trepidation.

This is not to say the markets are right to be cautious about what Brexit may bring but three clear trends suggest that investors would at the very least like greater clarity on what sort of deal the UK will get.

1. The UK stock market has underperformed since 23 June 2016

At first glance, a 30% total return from the FTSE All-Share (including dividend reinvestment) since the EU vote two years ago does not look bad at all. However, anyone who fled the UK’s financial markets as soon as the vote result became known in the early hours of 24 June would have been quite justified in doing so.

In total-return, sterling terms, the UK has been the worst performer of all of the eight major geographic regions from which investors and asset allocators can choose. The post-vote plunge in the pound has had a role to play here, as this has served to increase the value of any overseas holdings in sterling terms.

Source: Thomson Reuters Datastream. Total return, sterling terms from 23 June 2016 to 19 June 2018

2. The pound has yet to recover the ground it lost following the EU vote

With the Bank of England seeking to influence borrowing costs – and thus bond yields – by cutting interest rates to a record low of 0.25% in August 2016 and reintroducing Quantitative Easing (QE) – investors have not been able to express their hopes and fears through the usual channel of Government bonds and the interest rate they demand in return for lending money to the UK.

Instead, the pound has become the main lightning conductor for market sentiment and in general a ‘hard’ Brexit or ‘no deal’ have been greeted with dismay by sterling and the prospect of a ‘soft’ Brexit has tended to receive a warmer welcome from the currency markets.

The pound is still nearly 11% lower than where it was before the EU referendum, according to the Bank of England’s own trade-weighted basket.

Source: Thomson Reuters Datastream, Bank of England

3. Sterling has greatly influenced sector and stock performance within the FTSE All-Share index since the referendum

Three clear trends can be seen within UK equities since 23 June 2016, even if would be wrong to attribute every development to Brexit.

• Overseas earners and exporters have done well, helped by the pound’s decline but also hopes for a globally synchronised economic recovery. This helps to explain the strong performance of Mining, Industrial Engineering, Electronic and Electrical Equipment and Forestry & Paper, among others.
• Weakness in sterling has helped to draw predators to the UK, who have sought to snap up British assets on the cheap. Successful – or even failed – bids from overseas parties have helped to fuel the performance of sectors such as Technology Hardware, where Softbank of Japan swooped for ARM within a month of the referendum vote.
• Anyone seeking safety in haven, defensive sectors would have struggled, underperforming the wider UK stock market, which has itself done poorly on the world stage.

Source: Thomson Reuters Datastream

But not everything can be laid at the door of Brexit. The EU vote has surely had little bearing on the sale of orcs, trolls and fantasy gaming products at Games Workshop, a key component of the Leisure Goods sector while Food & Drug Retailers have confounded the bears, despite the pressure put on the cost of imported products owing to the weaker pound, thanks to cost-cutting programmes, industry consolidation, improved operational performance and the rise (and rise) of Ocado.

Fears of tighter domestic regulation have weighed on the utilities, Tobacco firms have struggled amid weaker industry volumes and fears that alternative products may have been overhyped and oil equipment stocks have struggled during a period of austerity and investment restraint at their major customers.

But the ongoing debate over what Brexit may or may not mean once it comes into force after March 2019 (or December 2020) could continue to help shape sentiment towards British financial assets for some time to come.

These articles are for information purposes only and are not a personal recommendation or advice.