The resignations of UK foreign secretary Boris Johnson, Brexit secretary David Davis and other Conservative MPs this week appear to suggest a ‘soft’ Brexit is likely – but in practice they have left investors even less certain about the likely form of any deal between Britain and the European Commission.
Could buying short-dated UK bonds be a good bet, as some suggest, or is the environment simply too unpredictable to warrant making any calls?
“I want more decisiveness,” said Bryan Goh, Singapore-based chief investment officer at Swiss private bank Bordier & Cie. “It’s difficult to plan for the future when the [UK] government cannot decide on the flavour of Brexit it wants,” he told AsianInvestor.
“In the short term, a softer Brexit is preferable, but in the long term it is hard to tell which is better,” he added. “Investors just want resolution. What is definitively worse than either soft or hard Brexit is not being able to decide which one to pursue.”
The departures highlight the fact that it is difficult for Brussels to identify whom they are negotiating with, added Goh.
Davis stepped down on Sunday evening, followed by junior Brexit minister Steve Barker, with Johnson following suit the next day, along with other junior figures. They were protesting against Prime Minister Theresa May’s plans for a softer split from the EU, leaving Britain more aligned with the single market than hard Brexiteers would like.
Former housing minister Dominic Raab has replaced Davis, and Jeremy Hunt has swapped the post of health secretary for foreign secretary.
The departures of big-hitting Brexiteers Davis and Johnson “appear to favour a soft Brexit, although I wouldn’t count on it”, said Goh.
“The Tory party is not one party, but two almost diametrically opposed ones,” he noted. “The departure of a handful of Tories on any side of the European argument doesn’t mean much, and the situation could change in days.”
The resignations are not very significant so far, agreed Chris Bowie, London-based portfolio manager at TwentyFour Asset Management, a fixed-income boutique of Vontobel Asset Management.
While they may tempt more Eurosceptic Conservatives to vote against the government’s plan, it appears they do not have enough votes yet to seriously impact government strategy, noted Bowie. “Therefore a soft Brexit is still the most likely option.”
Certainly the bond market would prefer a softer Brexit, preserving free trade with as little disruption as possible to the status quo, he said. “But we believe UK assets can perform well in either scenario, provided you stick to high-quality, high-turnover, blue-chip investments with significant overseas operations.”
In any case, UK corporate bonds are already cheaper than those in US and continental Europe, said Bowie, due to the substantial Brexit premium that has been visible since June 2016 (see figure below).
“Over time we would expect the Brexit premium to reduce, leading to further outperformance of UK assets.”
TwentyFour AM has been overweight UK assets since the Brexit premium became available, said Bowie, focusing on short dated BBB-rated bonds, which typically will mature before the transition period ends in December 2020. “This way we benefit from the Brexit premium without any significant hard Brexit economic risks.”
The bulk of the firm’s exposures are to large-balance-sheet, large-turnover, blue-chip companies with significant overseas operations, he added.
Goh was less sure of which assets he would back. When asked what impact the latest developments in the UK situation would have on investment into UK or European assets, he said it was “too unpredictable” to say.
As for how it is affecting Bordier’s own portfolio, he said Brexit was simply an additional risk factor to consider as part of the firm’s stock selection.