All summer, financial media and UK policymakers have been preoccupied with the possibility of a ‘no-deal’ Brexit, in which the UK leaves the EU next year without a new trade deal in place. International Trade Minister Liam Fox and Bank of England Governor Mark Carney recently warned that the likelihood of this is rising. Industry trade groups like the National Farmers’ Union claim potentially dire consequences such as food shortages loom. A series of government whitepapers providing ‘guidance on how to prepare for Brexit if there is no deal’, published on 23 August, revealed the potential impact in 25 different areas, from humanitarian aid programmes to banking and taxes. In our regular survey of financial media, we noted several pieces warning a no-deal Brexit could be catastrophic for the UK’s economy and equity markets. Yet we also noted some commentary arguing these warnings are perhaps overblown, based on markets’ and the economy’s apparent resilience thus far. We are of the opinion that this latter viewpoint is more likely to prove correct.
Fisher Investments UK’s parent company, Fisher Investments, has long researched politics’ impact on capital markets. Among its chief findings: political developments that impact society at large but are generally separate from the economy — sociological issues — tend not to influence markets over any meaningful length of time. Uncertainty arising from heightened discussion of these issues may coincide with equity market volatility at times, but it doesn’t appear to be a consistent, lasting driver of returns. Secondarily, a wide body of scholarly research has shown equity markets are forward-looking — share prices are influenced by investors’ expectations of future events, not events that have already happened. As a result, markets tend to ‘price in’ widely discussed information, meaning prices generally reflect whatever people are commonly talking about. This can include expectations for economic growth as well as widely held fears and opinions about the future. If reality goes differently than most expect, the surprise can have a powerful influence on returns for good or ill.
Fisher Investments’ research and analysis suggests a no-deal Brexit likely doesn’t meet either qualification to be a material, negative equity market driver. For one, as the government’s impact papers reveal, most of the implications are sociological.[i] Workplace rights, product labelling and rules surrounding genetically modified organisms can impact day-to-day life, but they have little to do with the overall amount of goods and services produced in the UK or the long-term profitability of UK companies overall. International trade and banking are more relevant for the broader economy and capital markets, but it isn’t clear from the white papers that the impact would be broadly negative. Expats being unable to access accounts abroad, which was one potential outcome, is a headache but not an economic risk for the country. It is true some financial firms may be forced to move some operations from the UK to the EU if the government is unable to secure the right for them to continue serving EU customers from the UK, but this has been known since before the vote, sapping surprise power. Many businesses have already begun preparing for this outcome, which we think should limit potential disruption if it were to happen.
Moreover, we think it is important to note that all of the no-deal warnings from cabinet ministers, EU leaders and trade groups could be as much about politicking as anything else. During tense political negotiations, we have observed it to be normal for all interested parties to attempt to curry favour and influence the outcome. Appearing to be a tough negotiating partner is a time-tested strategy, and politicians may also use it to win favour from voters. Trade talks often seem on the verge of death before politicians eventually compromise. And if there is one thing that EU leaders showed repeatedly during the eurozone’s recent debt crisis, it is that they are quite adept at compromising at the last minute. Further, the lack of consensus on the British government’s part regarding Brexit aims adds a dose of potential domestic politicking. Therefore, we think investors would likely benefit from taking these warnings with a grain of salt.
If a no-deal Brexit were to happen, we think this summer’s theatrics drain much of its power of surprise. If the tone of media coverage is a reliable guide, we suspect it is fair to say equity markets have spent this summer pricing in a worst-case scenario of food shortages, high trade barriers with the EU and UK firms losing significant market access. In our view, this ignores the high likelihood that the UK’s membership in the World Trade Organization (WTO) preserves its international trade ties, including with the remaining EU member-states. The tariff rates it would face as a WTO member with so-called most favoured nation status are quite low, overall and on average.[ii] It also seems worth noting that businesses haven’t responded to the looming uncertainty by slashing investment, and outside of some high-profile examples like Panasonic, most haven’t warned of a potential need to move manufacturing facilities from the UK to Continental Europe. To us, this suggests businesses don’t expect a no-deal Brexit to prove terribly disruptive to their operations and plan to continue investing and operating in the UK indefinitely, which speaks to a smaller economic impact than feared. Based on Fisher Investments’ research, if a no-deal Brexit were to occur without bringing calamity, it could end up being a positive surprise for UK equities. As could a last-minute compromise that would perhaps render all of today’s speculating irrelevant.
Therefore, we don’t believe chatter about a no-deal Brexit is reason for investors with long-time horizons and long-term growth objectives to avoid equities. We think markets move most on probabilities, not possibilities, and the evidence available today suggests to us that the likelihood Brexit is as disruptive for businesses as many seem to fear is quite low.
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This document constitutes the general views of Fisher Investments UK and should not be regarded as personalised investment or tax advice or as a representation of their performance or that of their clients. No assurances are made that they will continue to hold these views, which may change at any time based on new information, analysis or reconsideration. In addition, no assurances are made regarding the accuracy of any forecast made herein. Not all past forecasts have been, nor future forecasts will be, as accurate as any contained herein. Fisher Investments Europe Limited, trading as Fisher Investments UK, is authorised and regulated by the UK Financial Conduct Authority (FCA Number 191609) and is registered in England (Company Number 3850593). Fisher Investments Europe Limited Headquarters: 2nd Floor, 6-10 Whitfield Street, London, W1T 2RE, United Kingdom. Fisher Investments Europe Limited’s parent company, Fisher Asset Management, LLC, trading under the name Fisher Investments, is established in the USA and regulated by the US Securities and Exchange Commission. Investment management services are provided by Fisher Investments.
[i] Source: www.gov.co.uk, as of 31/8/2018. Collection: How to Prepare if the UK Leaves the EU With No Deal, Published 23 August 2018.
[ii] Source: World Trade Organization, as of 31/8/2018.