Triggering of Article 50 - multi-asset positioning as brexit starting gun is fired


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Britain’s entry into exit talks with the EU may present an occasion to position for ‘de-globalisation.’ 

After a long and tempestuous marriage, characterised by a few unseemly rows as well as moments of bliss, the UK and European Union are finally set to enter into official divorce proceedings, at the end of the month.

Much depends on the success of the talks over Britain’s future relationship with the largest economy in the world, in terms of the UK economic, political and market outlook – and we do not know whether the negotiations will progress smoothly or descend into a diplomatic fist fight.

One thing that is clear, though, is that the triggering of Article 50 on 29 March marks a further step towards ‘de-globalisation,’ whereby countries, business and other organisations pull back from seeking to develop influence and operate on an international scale. We believe the victory of Donald Trump in the US presidential election, on a platform of ‘America First,’ is part of the same retreat.

As the post-1945 world order begins to fray, political risk appears likely to rise on the list of investor concerns. Will cross-border acquisitions and mergers by companies be scuppered by protectionist parliaments? Will trade disputes disrupt supply chains, hampering the production of goods and delivery of services across countries?

We do know that the UK economy has shown remarkable resilience in the months following the referendum last year, while the global economy appears to be gathering pace – with the potential for further strength driven by US stimulus plans. So despite the considerable uncertainty over the direction of the talks, recession looks unlikely in the near term. In short: the lights will not go off.

STERLING AND UK COMPANY SHARES 

Indeed, we see opportunities as well as risks from the move away from globalisation. The Trump administration has signalled an appetite for tax changes that would support investment by companies; the UK government may take a similar approach in the coming years, which could benefit smaller, specialist firms that work in areas such as high-end manufacturing.

At the same time, sterling, which so far has borne the brunt of investor anxiety over Brexit, may be close to bottoming out or even regaining some ground, in a classic case of ‘buy the rumour, sell the fact’ of the UK’s intention to exit the EU. The pound is close to levels against the US dollar that in 2008 helped to eliminate the current account deficit – whereby the value of imported goods, services and investment incomes is greater than the value of exports – which could also help lift the currency. 

Under this scenario, shares in larger UK companies with overseas earnings could lose some of the support they have enjoyed of late, as they would no longer benefit from the value of their foreign profits automatically rising due to a weaker domestic currency. As a result, we prefer exposure to good-quality medium and smaller companies.

We also remain wary of UK government debt, which does not appear to offer good value, in our view, because inflation is rising and the Bank of England may return to considering interest-rate increases before long. Inflation eats away at the value of the fixed payments offered by bonds.

That said, there are pockets of value within broader bond markets. We cannot rule out the possibility of a return to deflation – or falling prices – or even of ‘stagflation,’ whereby prices rise but the economy languishes. Holding some inflation-linked bond exposure helps to buttress our portfolios against such possible outcomes.

NAVIGATING 2017 

In fact, we seek to position for numerous scenarios across all of our portfolios, given the range of directions in which the UK and the global economy could veer.

If 2016 was a year of binary events like the Brexit vote, 2017 is set to be one of events with multiple possible outcomes; the triggering of Article 50 presents one such occasion in which we will seek to seize the opportunities and skirt the risks, as they emerge.