BrexitApr 18 2018

A trade war would dwarf Brexit

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A trade war would dwarf Brexit

Brexit is just under a year away and for many investors – and the rest of the country – there are still many unknowns. 

Some may think it is more of a risk than others – some experts believe a US/China trade war, further problems with Russia and the prospect of a Corbyn government represent a bigger risk – but clearly if markets are anything to go by at the time of the referendum itself, then our departure from the European Union is likely to have an impact.

Charlie Parker, head of portfolio management at Sanlam UK, said: “What’s the mechanism by which the market reflects fear and anxiety about Brexit?” Will the same market occurrence at the time of the referendum repeat itself a year from now?

Mr Parker said: “[The referendum result] sent sterling down and the dollar up sharply relative to sterling. So, the thing that will make the big difference is to be long dollar, and that was seen over the referendum.”

There are other implications of an anticipated fall in sterling – large caps are likely to do better than small caps and exporters are likely to outperform importers, with small cap importers being the most vulnerable with increasing import costs from a weaker sterling.

Mr Parker said: “What we don’t want to invest in is companies that have to buy in their goods from overseas. House builders have to import a lot of material and they’re very dependent on the UK economy. The main thing is to be really careful to understand your currency exposure: think about the geographical exposure and think about maintaining a good dollar position in the event that we get a relatively benign end to Brexit talks.”

Will Dobbs, investment manager at Charles Stanley, said: “UK domestic stocks have been weak over the last couple of years – I can’t remember a time when we have been as low a weighting to UK equities as this time. 

“There will be a time when we get back to these stocks as soon as we get more clarity on Brexit negotiations, but we do remain cautious.”

Key points

  • Brexit remains a big unknown in terms of investments and mortgages
  • Some believe a trade war between China and the US poses a bigger threat
  • Sensible asset allocation is the way forward when anticipating risks

The same factor – weakening UK economy and sterling – has however, improved the lot of exporters, opening up new markets for those sending goods abroad. Mr Dobbs said: “Not being in the single market doesn’t stop trade with these countries. 

“Depending on what you’re selling, you’re dependent on different tariffs. Assuming tariffs are 5 per cent, sterling has fallen 15 per cent; it is still positive for companies exporting goods.”

Trade war

The challenge is if trade talks break down, prompted by a EU member upsetting discussions over the border in Northern Ireland or the future of Gibraltar. Mr Parker said: “I think most people are preparing for and pricing in not being in the single market. For us to be in the single market, the government would have to fall and we’d have to get a Corbyn government and then we’d have a whole range of other issues.

“The basic assumption is that everyone will act out of self-interest and do a trade deal. But there are these issues aside from the economics that are essential to our sense of nationhood, like Gibraltar and the Northern Ireland border. It’s not out of the question that any one of these countries could punish us on one of these issues and then the trade talks would collapse.”

However, bigger than Brexit on the horizon is the possibility of a trade war between China and the US. Mr Dobbs said: “The greater concern would be a tit-for-tat trade war that continues to escalate because we don’t have a huge amount of protection against that. Equities rely on growth and trade, and if the two biggest economies in the world are hiking up tariffs that’s not good for trade.

“The worst case scenario is that equities fall 50 per cent: that’s a much bigger threat than Brexit.”

If this were to happen, then Charles Stanley would reduce its equity exposure. Mr Dobbs said: “We are 70 per cent equity globally. For someone with a medium to low risk appetite, I would suggest that’s probably too high, and we would then have to start looking to alternatives – bonds we do, we’ve also got cash, but that’s a short-term measure.”

Pat Connolly, certified financial planner at Chase de Vere, said that at his firm the financial advisers do not bother with day-to-day threats but keep an eye on asset allocation, and re-balance every so often, if the allocation gets out of hand, if, for example one of the asset classes does especially well.

He said: “There’s always ongoing risks. Brexit is something that we know is going to happen but we don’t know the implications. Our approach is long-term strategic asset allocation which means we don’t take big bets depending on what’s going to happen.”

Trying to anticipate dangers means bringing in the risk of moving the portfolio the wrong way: “stock markets have been performing incredibly well; if you take a defensive approach you would miss out along the way.”

Mr Connolly is more than happy for clients to spread their portfolio across equities, bonds, cash and property. “What we will do is rebalance client portfolios; we take the profits from areas that have done well, and reinvest in those areas that haven’t done so well. If you get a strong run on stock markets and rebalance them you have more exposure on the way up. The approach is try not to be too clever, and try not to predict what’s going to happen.”

Mortgage matters

On the mortgage side, uncertainty is manifesting itself in a different way. David Hollingworth, associate director communications of L&C Mortgages, said that if people are unsure of what was going to happen long term post-Brexit, then now would be a good time to remortgage.

He said: “People might think: ‘I need to get myself in the best shape for that uncertainty, and I’ve some certainty with my mortgage, in that there are other things out of my control but I can do something about my mortgage.

“People are looking at the five-year fix market more than the two-year market. Two year is still very popular because it’s the cheapest rate, but we are seeing people fix for the medium term.” 

He added that uncertainty over the future of the UK economy may have an impact on house buying transactions as well as unpredictability over interest rates.

Pensions

Regarding pensions, the impact from Brexit is even less clear cut. Fiona Tait, technical director of Intelligent Pensions, said: “The impact on pensions will be somewhat indirect. It will affect investment, without a doubt, and if you’re in a company scheme or a DB scheme it will make a difference in terms of solvency in that respect.”

In addition, it might mean that pension regulation and legislation will be pushed further down the line, but one’s pension planning is likely to be business as usual.

The only known for now is that the consequences of Brexit are a big unknown, so if clients are wary, then some sensible portfolio and financial planning, as ever, will put their fears to rest.

Melanie Tringham is features is editor of Financial Adviser