Weekly market recap – Westenders

Sterling remains volatile as the battle for Brexit reignites in Westminster.

FacebooktwitterlinkedinmailFacebooktwitterlinkedinmail   by Tertius Bonnin, 6th September 2019

If you’ve ever thought the world was going mad, then don’t worry – maybe you’re right! A local man from the French city of Rochefort who bought a holiday home on the nearby Ile d’Oleron has lost a legal fight against his neighbour’s cockerel as he sought to silence the noisy bird’s dawn chorus. The French court ruled that Maurice, the four year old cockerel, cannot be silenced thereby rejecting the demand.

As an unruly Parliament returned from recess, pundits, hacks and investors alike have been on the edge of their seats in anticipation of the new Prime Minister getting his feathers ruffled. Asset class returns in sterling and local currency are below; risk assets moved higher across the board last week as the political risks in both the UK and Hong Kong slightly diminished.

Table 1: GBP total returns

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Source: Bloomberg

Table 2: Local CCY total returns

Source: Bloomberg

The UK Parliament returned from its summer recess last week in what was one of the most hotly anticipated political battles of the year. Recent developments within the Westminster bubble has seen the ongoing debacle become a tinder box, with prorogation acting as the most recent spark to ignite yet another incendiary scenario. While this was ruled by the UK’s High Court to be legal and within the powers of Royal Prerogative bestowed upon the Prime Minister, UK courts are likely to play an ever increasing role in further developments as each side pushes back

Last week was no exception to this. Thursday saw a win for backbench MPs as they forced a Bill through the House of Commons against the wish of the Government. The hope is this Bill will effectively block a no deal exit as it forces the Prime Minister to ask the European Council for another extension to the Article 50 process. You can see from the chart below how sterling rallied versus the dollar as the prospect of this Bill becoming law grew more likely. As sterling investors, asset class returns have been and will continue to be volatile with shifts in momentum for either side of the debate; when the perceived risk of a no deal departure recedes and sterling rises as it did last week, the value of foreign assets reduces as the purchasing power of the pound becomes greater

Chart 1: Last week saw a fall in sterling following the announcement of prorogation and a rally as the Bill to block no deal passed through the House of Commons

Source: Bloomberg

The chart below shows just how sensitive the pound has become to news flow surrounding the UK’s departure from the European Union. Until the referendum, sterling had traded on a healthy premium to what was perceived to be its “fair value”. This premium all but evaporated following the vote, with the world’s oldest currency having consistently trading at a high single digit discount since.

Chart 2: Over the long-term, sterling has been over valued versus international peers. This premium has evaporated with uncertainty around the UK’s departure from the European Union

Source: Bloomberg

It’s clear that any outcome is still extremely binary as neither side of the debate within the UK wishes to give ground and compromise. Whether pound strengthens or devalues from where we are now will almost entirely depend on what the UK’s future trading relationship with the European Union. With the pound’s valuation currently showing it to be cheap, it is clear that should a favourable outcome occur then there could be significant appreciation against other major currencies. Similarly, the unprecedented nature of a no deal exit could initially cause traders to aggressively sell sterling as they reassess the UK’s economic prospects.

THE WEEK AHEAD (G7 + China)

Monday: Japan Q2 GDP, Japan Current Account, Germany Balance of Trade, Germany Current Account, UK Balance of Trade, UK Industrial Production, UK Manufacturing Production, UK GDP

Tuesday: China Inflation Rate, UK Unemployment Rate, UK Average Earnings, US Redbook

Wednesday: China Vehicle Sales

Thursday: Germany Inflation Rate, France Inflation Rate, Eurozone Industrial Production, European Central Bank Interest Rate Decision, US Inflation Rate

Friday: Japan Industrial Production, China M2 Money Supply, Eurozone Balance of Trade, US Retail Sales, US Michigan Consumer Sentiment

STAT OF THE WEEK: $136 billion – estimated Chinese lending to African countries since the year 2000 (China Africa Research Centre).

Data correct as at: 06/09/2019

About the author: Tertius Bonnin

Tertius joined EQ in 2016 and is responsible for covering investment ideas within US, Global and Thematic equities. He sits on the fund selection committee and also supports the portfolio managers across a range of other responsibilities.

He passed Level I of the CFA exam in 2018, holds the Investment Management Certificate and has a BA in Business with Finance. He enjoys a variety of sports including skiing, cycling and running – and when not in the office he experiments with Asian cuisine.

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