Schroders: too many uncertainties now because of Brexit

Amid this flurry of Brexit developments, Wednesday also saw the Chancellor of the Exchequer, Philip Hammond, deliver the Spring Statement, which focuses on the UK economy and government finances.

Keith Wade

The Office for Budget Responsibility (OBR), the independent watchdog, downgraded its forecast for growth in 2019 to 1.2% from 1.6% in October. It maintained its forecast of 1.4% growth in 2020 and revised up its forecast for 2021 to 1.6% from 1.4% in October. Azad Zangana, Senior European Economist, said: “The outlook is simply too uncertain to read too much into the current forecasts and plans. The Chancellor was at pains to stress that Brexit uncertainty must be lifted to help boost the economy. He even published a list of tariff schedules that would apply if there is a no-deal Brexit. Of course, there is no guarantee that he would be in his post to push them through in a few months time.”

Brexit and the economy

The Schroders Economics Group recently lowered forecasts for UK economic growth highlighting that the delay had already done some “irreversible damage”.

The estimate for real GDP growth for 2019 was reduced from 1.4% to 1.1%. The forecast for 2020 was left unchanged at 1.5%. This scenario is based on growth in investment and household spending from the second half of the year, which should last well into 2020.

The group also pushed back its expectation for a rise in interest rates to 1% from May to August.

Keith Wade, Chief Economist, said: “Our view on the Brexit outcome has not changed as a result of the two votes in parliament this week. The odds on a damaging no deal have risen, but we still see the most likely outcome as being a deal with a transition period allowing the economy to recover as the ‘cloud of uncertainty’ is lifted.

“For some time we have taken the view that a deal would be done at the last minute as has been the EU’s modus operandi in past crises. In this way they can obtain maximum leverage as the clock ticks toward midnight on 29 March. Clearly, any deal would have to contain a legally binding agreement that the UK would not be locked into the EU by default as a result of arrangements for the Irish border. Such an agreement is not impossible to imagine, but the EU is likely to demand a price, probably extra contributions to the budget or possibly on areas like future fishing rights. “That said once agreed there would still be a delay as any deal would have to go back to parliament for approval and would then have to be ratified by the EU27. There is also the need for parliament to pass a massive amount of legislation before the country can depart.”

Brexit and the UK stock market

Brexit concerns have left UK stock markets unloved and, on some measures, undervalued. When comparing share prices with earnings, a key measure of value, the UK market registers 14.1. This is 12% below the 20-year average and compares with 19.9 for the US and 15.2 for Europe. (All figures based on MSCI data, 14 March 2019).

Income yield is also attractive with the UK market currently paying 4.7% compared to 3.7% for Europe, 2.9% for Asia Pacific and 2% for the US.

Sue Noffke, Fund Manager, UK Equities, said: “Uncertainty about the UK’s relationship with the EU has left many international investors nervous about investing in UK equities. A recent poll showed that UK stocks were the least popular asset class among global fund managers. “While it is understandable to fear uncertainty, we embrace it since uncertainty creates the mis-priced opportunities in markets that we look to exploit. Some of the most attractive opportunities are among companies whose businesses are most exposed to the domestic consumer such as housebuilders and hotel and leisure companies.

“Of the larger companies listed on the UK stock market, many derive a significant portion of their earnings from overseas. The prospects for these businesses are determined by wider global factors – and we’d say those prospects appear fundamentally sound whatever happens in the context of Brexit.”

Brexit: what next?

Caspar Rock, Chief Investment Officer, Wealth Management, said: “A day is a long time in politics and we still have 14 to go.

“MPs have indicated they don’t want a no-deal, and tonight they may vote to extend the Brexit date. That’s not a given, because EU countries need to agree to an extension and they’ll demand a rationale for doing so – such as Theresa May backing down on some of her red lines, or the calling of a referendum.

“One outcome that’s looking increasingly likely is that the Prime Minister will put her deal to parliament again.

“As the deadline nears she’s cornering MPs by reducing their range of options. Brexiteers may increasingly fear a revocation of Article 50, a second referendum or no Brexit at all, while Remainers will be pressured by the fact that a no-deal could still arise.

“It might be a case of the government losing many battles to win the war. Theresa May has already reduced the margin of opposition to her deal and she may now slog onward to reach a majority, however close that takes us to the 29th.”