Nearly four months after the UK voted to leave the EU, it is time to take stock.
Politics – Fog lifting slowly. We do not claim any great political insight but the fog is slowly lifting. Since the Conservative party conference, the mood has shifted in favour of a “hard Brexit”. The prime minister has apparently decided the control of immigration should outweigh staying in the EU single market. However, parliament has asserted its authority and will debate Article 50 before the UK triggers the exit process by end-March next year.
Economics – Heavy cloud, no thunderstorms. In theory, the Brexit vote should mean weaker growth compared with not leaving the EU. We shall never actually know because we cannot run an alternative universe where there is no Brexit.
Just to complicate matters, the UK economy was slowing anyway prior to the EU referendum vote but, on the other hand, the Bank of England eased monetary policy on 4th August and the Chancellor, Philip Hammond, may loosen fiscal policy on 23rd November.
Leaving all that aside, the latest surveys show the UK economy is indeed below par compared with the past five years. We have looked at 18 business surveys for an up-to-date reading across the economy. Three are exceptionally weak, none are exceptionally strong, the rest are evenly split around the mean. In other words, timely growth data shows some weakness but nothing disastrous.
Turning to inflation, Tuesday’s numbers showed a jump in headline inflation to 1.0% and core inflation to 1.5% in September. The rising trend is mainly due to a firmer oil price and a weaker pound. The former has nothing to do with Brexit but the latter certainly does.
Sterling’s fall will continue to feed through into retail prices for some time such that inflation will head for 2.5% or 3% in a year’s time. We recommend you buy your Marmite now!
Markets – Mixed sunshine and clouds. The truest Brexit barometer is probably the pound, which has fallen some 15% in trade-weighted terms since 23rd June. The first roughly 10% came immediately after the vote as the markets re-assessed Britain’s prospects; recent weakness has reflected the rising chances of a hard Brexit. For now, we expect sterling to reflect the shifting chances of hard and soft Brexit.
UK equities have rallied in sterling terms but the gains are illusory. In any other major currency, they are down year to date. The large cap FTSE 100 has profited especially from its high weighting of oil companies and commodity producers and roughly 75% of profits being generated overseas. In the absence of a recession (which we do not expect) the market may slog higher.
Finally, the 10yr gilt yield has risen by around 60 bps since mid-August to just over 1.1% today. This largely reflects global markets – the 10yr Treasury yield has risen 40 bps – but also the additional negatives of a weak pound and possible fiscal easing ahead. We cannot claim that gilts are great value when inflation is heading for 3% but, with short rates anchored close to zero, there may not be much further upside for yields.
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