Thu, 30/06/2016 - 10:30
Vincent Mortier (pictured), Deputy CIO, Global Head of Multi-Asset Amundi and Pascal Blanqué, CIO, Global Head of Institutional Division Amundi have issued a joint statement on the situation post Brexit.
They write that a few days after the surprise vote in the UK, uncertainty remains high and that they believe it won’t ease anytime soon given the complexity of the subjects to be dealt with.
“However, we have some clear perspectives during this time of uncertainty. Firstly: this is a political crisis, not a financial one. We are not in a revival of 2007/2008. Secondly, there will certainly be some impact on global growth but it should be limited as the main driver remains internal demand; we still believe global growth will be in the region of 3 per cent this year and in 2017.
“Thirdly: the European Union has some challenges ahead but we are convinced they will be overcome– remember that Europe is at its best under pressure. We are not in a revival of 2011. Fourthly, we will see more involvement from Central Banks, not less; we believe the Fed will not increase rates in the foreseeable future, ECB, BoE and BoJ will increase their interventions.
“Finally: so far the market movements are totally logical and correspond to a re-pricing of risk premia; some interesting entry points will come in the next weeks for long-term investors. We are now in an environment where classical asset allocations will prove inefficient in the future as core Govies go globally deeper into negative territories and can no longer be considered as safe in terms of capital preservation on a short and medium-term horizon.
“Two main trends will drive the market and should influence allocations: (i)diversification (assets, geographies, implementation style…) is key and (ii) the search for yields will continue. Therefore we still consider that equities are a fundamental asset class to hold and deserve gradual buying during their low points. Credit also offers some interesting risk / return, on the IG which is in Europe supported by the ECB but also on the high yield and the peripheral govies space. In terms of geography: (i)emerging markets have hit a bottom and represent a good opportunity (equities and debt), (ii) US
Treasuries continue to be the most efficient tail hedge alongside volatility, (iii) – even though it may sound an unconventional view today – we continue to see value in European equities and (iv)regarding GBP assets a cautious stance should be adopted waiting for more obvious opportunities.
“Certainly the road will be bumpy and Brexit is only one – important – piece of the equation; e.g. the global situation in China and growth dynamic in the US must be monitored carefully. We nevertheless consider that the period which begins now will offer significant opportunities for investors to rethink their asset allocation and reinforce their exposures to some risky asset at a better price. In parallel real assets (real estate, private equity and private debt) will confirm their status of one of the key diversification assets in all allocations.
“As a European leader, Amundi is ideally placed to accompany its clients and advise them on the best tactical and strategic allocations and on the opportunities which will arise.”
Amundi offers answers to 12 key questions recently asked of the research team.
QUESTION No1 : Will UK stay within EU despite the BREXIT vote?
Everything is feasible in theory … but in practice, the British people have voted for a BREXIT and in a democracy, the government has to respect and implement the results coming from the referendum. This is exactly what the Minister of European Affaires said last Tuesday. In practice, the UK will exit the EU, it is just a question of when. The key question is about the activation of Article 50 of Lisbon Treaty, which determines the starting point of EU / UK negotiations.
QUESTION No2 : Will there be a second referendum?
We do not believe a second referendum is an option. The vote was clear, and the European countries cannot accept a prolonged period of wait-and-see... The British press (including the pro- BREXIT one) and lots of pro- BREXIT politicians have minimised the vote and softened their views before negotiating with their European partners. However, Scotland is expected to launch a referendum on a different type of BREXIT (exit from UK). The impact on the UK economy may be disastrous depending on the outcome of negotiations, but UK has to cope with the recent vote.
QUESTION No3: Is a petition sufficient to reverse the BREXIT process?
The answer is no. First, a petition cannot reverse a vote: with more than 100,000 signatures, the petition may be discussed at the parliament, but does not reverse a vote. Second, this petition has been launched before the referendum, at a time when the “remain” option was leading the polls. Third, the petition is not representative, with votes of foreigners, minors …
QUESTION No4: What will the EU answer be?
Two sets of answers are required. One is economic, one is political. The ECB gave a first answer, deciding to buy corporate bonds in order to calm stress, volatility, and to push credit spreads and risk premia down. The politicians will have to give the second answer, i) quickly and properly manage the BREXIT, and ii) addressing issues such as growth, employment, reforms, immigration… financial markets will definitely have plenty of occasion to check the capacity of the remaining 27 countries to achieve, consensus, conclusions and actions … and get rid of risk of dislocation and/or “Europe à la carte” …
QUESTION No5: Will EU / UK negotiations determine the final impact on the UK economy?
Definitely yes. The extent of this impact will depend on the outcome of negotiations with the EU, which will determine the harm done to the UK’s exports. There are several possibilities:
· Access to the single market and membership of the European Economic Area (EEA)… like Norway, which contributes to the European budget and benefits from the free movement of goods and persons, but does not have a free-trade agreement with the EU;
· Membership of the European Free Trade Association (EFTA) like Norway, but with trade agreements negotiated with the EU, like Switzerland. Switzerland has certain restrictions like limited access to the EU for its banking industry (this is crucial to the UK);
· No specific trade agreements, but no customs duties between the UK and the EU, as is the case for Canada, for example. However, part of the BREXIT camp wants to impose tariffs to the EU.
· The renegotiation of individual trade agreements with each EU country. Remember that the implementation of trade agreements involves between four and ten years of negotiations. On top of negotiations, lies the impact of the end of the European passport, especially of non-UK banks acting from UK in Europe.
QUESTION No6 : What about the political impact of BREXIT on the UK?
A gloomy period has already started. At the parliament, 479 members (over 650) had voted for a Remain, and they are forced to implement a BREXIT. The referendum has pointed out the massive divergence between the countryside and big cities like London, between generations (older people for a Brexit, younger people pleading for a remain), between countries (England and Wales vs Ireland and Scotland) … within political parties, pro- BREXIT and pro-BREMAIN…
QUESTION No7 : How will BREXIT impact the European economy?
One can assess the impact through three main channels : i) exports, ii) FDIs, and iii) financial sector. Regarding exports, Ireland, Malta, Cyprus, Belgium and Netherlands are the countries which will be hurt the most. Regarding FDIs, Malta, Ireland, Luxemburg, Cyprus, Switzerland, Belgium and Netherlands. Regarding the financial sector, by no surprise, the countries to be hurt the most will be Luxemburg, Switzerland and Malta. In total, we are revising EMU growth down 0.1 per cent in 2016 (from 1.6 per cent to 1.5 per cent) and 0.2 per cent in 2017 (from 1.5 per cent to 1.3 per cent).
QUESTION No8 : Will BREXIT be responsible for a slowdown in the world economy?
Not really. The UK was the fifth economic power (before the sharp drop in the GBP) and European growth will be revised down, but world growth remains sustainable due to the strength of internal demand. As long as growth is driven by internal demand, any slide in trade due to a shock such as the BREXIT will not damage growth that much. World growth should stay around 3 per cent both in 2016 and 2017.
QUESTION No9 : Will BREXIT endanger the European banking systems?
The banking systems has suffered from i) negative interest rates (with low bond yields, a cut in profitability), ii) high cost of capital (the burden of past crises, regulation, the lack of capacity of investors to discriminate banks and banking systems, specific risks …), and iii) low growth. The BREXIT gives an additional rationale for those three factors. Do not succumb to panic though: the banks in 2016 are different from the banks of 2008 or 2011 (ECB’s TLTRO, credit exposure, banks supervision set-up, equity capital …), and valuation will be perceived as attractive at some stage.
QUESTION No10 : How will the London financial centre be impacted by the BREXIT ?
Several (and major) consequences:
UK banks will lose their European passport, which means that banks located in the UK (as a EU country) have the capacity to trade in any other EU country. Without this passport, banks will have to delocalise some activities (HSBC, JPMorgan already announced they will prepare such a move);
· The merger between LSE (London Stock Exchange) and Deutsche Börse might be challenged :
a question of price (the price of LSE has changed with the drop in the GBP), and a question of location (will the Land of Hesse veto the merge?);
· Clearing houses might move from London to an EU country. EMU countries could accept the infrastructures and institutions based in a EU country (even if a non EMU country). Will they accept infrastructure still based in a non-EU / non EMU country? Probably not;
· The European Banking Association has already announced it will leave London;
· The ECB already announced that the bulk of the euro market could not stay in London in case of a BREXIT.
QUESTION No11 : BREXIT and monetary policies : towards more accommodative stance?
Too bad for those who were still expecting interest rate hikes. The Fed has not entered a real tightening cycle or a normalisation phase. The Eurodollar curve considers the next tightening will occur in 2017. We share this view. With US growth converging (down) to its potential, the US central bank cannot take the risk of any USD appreciation (as a reminder, a 10 per cent appreciation of the real effective USD is equivalent to a 175bp interest rate hike). BoJ has to intervene in the FX market and is stuck with its QQE (Qualitative and Quantitative Easing). The ECB has accelerated asset purchases, has recently enlarged purchases to corporate bonds, and the probability for further cuts (even low) is not at zero. BoE will cut rates to support growth …
QUESTION No12: Does BREXIT add additional rationale for chasing returns and spreads?
Definitely yes. Rates and yields will stay low (or even go lower). Chasing returns and spreads will continue. Note that BREXIT supports US Treasuries (safe haven + carry purposes) and European government bonds (safe haven + QE programme). It also supports corporate bonds, especially those corresponding to the ECB’s QE programme (Investment grade), and to a lesser extend High yields bonds. Banks are in a specific environment: TLTRO eliminate liquidity issues, but some specific problems (in Italy, in Portugal for example) and the absence of asset purchases programme in favour of financials pleads for a separation between industrials (ECB programme) and financials. Banks are not at systemic risk, and in the worst case scenario (the stress continues to impact banks), the ECB could announce purchases of bank debt in the secondary market. In such case, bank spreads (and stocks) will certainly become the best play.
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