close
Latest News

Investing For Bank of England Governor Carney’s Worst Case No Deal Brexit Scenario

Invest

On Thursday of last week, Bank of England governor Mark Carney outlined the potential economic apocalypse that could ravage the UK in the event of the worst-case no deal Brexit scenario. The worst-case scenario described, which the UK’s central bank has defended as a low-probability but possible outcome, has ruffled feathers and led to accusations of fearmongering. It would involve the UK’s GDP dropping by 10% compared to pre-Brexit forecasts, which would be expected to result in a recession of a level unseen on these shores since the 1930s almost a century ago.

Of course, everything else up to that worst case scenario would be bad but less bad. And the far greater likelihood is that the eventual outcome falls short of the worst case scenario. But regardless, few would bet that stormy times do not lie ahead. If you are investing online in equities or have investment properties, you should be planning for market volatility and the kind of conditions a no deal Brexit would be expected to lead to. Even if it’s not Carney’s apocalyptic scenario no one believes a no deal severing of ties with the EU will not be painful in the short to medium term. But that doesn’t mean there won’t be opportunities too and by investing smartly you could actually come out the other end of a downturn wealthier.

The three asset classes most likely to suffer in the case of a no deal Brexit are the pound, UK equities and the property market. So what do the economic outlook assessments published this week say about all three and what can you do to flip the pain for gain?

Pound Sterling

The pound sterling has, at least so far, the asset that the Brexit soap opera has hit hardest. The UK’s currency is down 11% against the euro and 10% against the dollar compared to its relative value to those two currencies pre-Brexit referendum. That has been reflected in an uptick of inflation to 2.4%, with the higher prices retailers are having to pay for imported products and raw materials being passed on to buyers.

The worst case no deal Brexit for the pound would be, believe the Bank of England’s analysts, a heavy fall by another 25% against the dollar. The single currency also wouldn’t come out of a no deal Brexit unscathed, with the scenario hurting both sides of the negotiating table. However, the pound would be hit hardest and could see a slide against the euro that comfortable extends into double figures.

Were that worst case scenario to unfold, inflation could top 6.5%. The last time inflation hit such heights was the early 1990s. The expected outcome would be consumers dialling back on discretionary spending, which would hit retailers and their manufacturers and suppliers earlier in the supply chain.

Source: trading economics

So as an investor, what can you do to first preserve wealth and secondly to potentially profit? If you have significant cash savings, you might consider spreading your risk by splitting them between different currencies. Some banks, especially newer fintech banks such as Monzo and Revolut, allow you to hold cash in different currencies. Among the traditional banks, Barclays, HSBC and Citi Bank also offer accounts denominated in euros or dollars. Splitting cash savings between different currencies hedges your bets and if the pound does drop significantly you could actually profit when exchanging savings held in other currencies back into sterling.

When investing online, you might also want to consider diversifying more into dollar and euro-denominated stocks and funds. Keep in mind, many of the larger UK-listed companies anyway generate the bulk of their revenue in currencies other than the pound so can actually benefit from the currency weakening relatively to other major international currencies. However, be wary of domestic facing stocks that might suffer if Brits reign in their non-essential spending for a period.

Equities

Outside of currency headwinds, UK equities markets have taken a hit as a result of Brexit uncertainty. Fidelity International, the asset manager, estimated that £3.1 billion of international capital has flowed out of UK-listed companies since the referendum. Those nerves have also hit the FTSE 100 despite the fact that most of its constituents are not especially exposed to the local market and generate most of their revenues abroad. Despite that the benchmark index is down 8% this year, a worse performance than other developed markets and for no obvious reason other than Brexit-influenced investor nerves.

The FTSE All Share index, which also includes all of the companies below the largest 100, is down by almost the same amount. Many of the constituents of the All Share index are more, or mainly reliant on the health of the domestic market. Most experts see further volatility and losses in the event of a no deal Brexit.

What does that mean for those investing online in UK equities? Long term, there shouldn’t be too much to worry about, on the assumption that the UK economy eventually bounces back several years down the line. Unless you are approaching retirement over the next 5 years or so you can sit tight. If you do want to protect your portfolio’s value against domestic market woes, consider scaling back the percentage of your holdings based in the UK and consider funds focused on other geographies such as Asia Pacific or the Americas. The companies held by regional funds focused on other parts of the world will also help balance out currency-based losses.

However, for investors able to take a longer term view, there is also a strong argument that the contrarian approach of buying up unloved UK companies could well pay off strongly further down the line. When there is finally good news for the UK economy, British equities could bounce back strongly due to the fact many are currently undervalued on the basis of their fundamentals, relative to peers in other developed markets.

That doesn’t mean that those investing online shouldn’t be wary of some UK companies. If the economy hits a slump it would spell bad news for many and if they are hit particularly hard that could have a negative impact on their subsequent ability to rebound strongly.

Companies that would be expected to rebound most strongly and prove to be most resilient during a recession would be expected to fall into three main categories. The first is London-listed companies that generate a large majority of their revenues internationally and are not overly exposed to UK spending. The second would be companies that sell relatively cheap products unlikely to be cut out if budgets are tightened. And the third would be companies at the other end of the spectrum selling luxury goods whose wealthy buyers’ spending power would be expected to suffer less.

Property Market

The UK’s property market has already hit a bit of a lull. Prices have eased in the most expensive regions, particularly London and the South East. Across the country the number of transactions has fallen which could be a signal of price drops to come if we hit a sticky patch economically. Locals are holding off moving home and foreign buyers are being deterred. Last week’s Bank of England Brexit forecast stated that the worst case scenario could lead to a slump in house prices of as much as 30%. However, such an extreme outcome would only play out if unemployment significantly increased along with inflation and interest rates hit 5.5%.

During the international financial crisis a decade ago, property prices fell by an average of 17%. That actually presented an opportunity for investors with many snapping up investment properties they have subsequently gone on to realise impressive returns on. The Bank of England assessment forecasts the UK economy would return to growth from after 2023, even in the worst case scenario. Which would be expected to mean house prices starting to rebound. So for investors with the funds available, acquiring investment properties over the next few years should a deep price slump take hold could prove to be an astute move.

Risk Warning:

Please remember that financial investments may rise or fall and past performance does not guarantee future performance in respect of income or capital growth; you may not get back the amount you invested.

There is no obligation to purchase anything but, if you decide to do so, you are strongly advised to consult a professional adviser before making any investment decisions.

Paul

The author Paul