The implications of Brexit for structured products

As we all digest the shock result of the UK decision to leave the EU on June 23rd I would like to offer some perspectives of the impact of this event on investments in general and structured products in particular.

With hourly developments on the political side and the likelihood of extreme market turbulence in the short term and very uncertain trends in the longer term we have entered a disorientating new world. This will affect the UK and the EU profoundly and on the first open day of markets since the result it caused big market falls and a significant drop in the value of sterling.

Investors will be worried about their financial position and investments and will be consulting their advisers or examining statements over the coming weeks. While equity holdings will be most affected, the defensive nature of most structured products means that protection features will help reduce losses.

Once the most pressing questions have been answered and investors have the time and focus to look in more detail, the case for using structured products in market conditions like these remains compelling. With care they enable the right positioning for many investors’ portfolios.

It remains to be seen how investors react and when and how they invest next. Market timing is of course critical right now and this presents two challenges.  As volatility swings around issuers may look to capture favourable pricing and issue products more tactically if they believe there is the demand.  However in today’s regulated world, proper product governance including target market and stress testing has to be conducted just the same way as before Thursday.

What appetite investors in the UK and elsewhere will have in the coming months is very unclear but money is out there to be invested at some point. Some parallels have been made to the current situation to Lehman and the financial crisis of 2008. It remains to be seen how things play out but the key difference is that the Lehman bankruptcy was a clear market credit event which caused the shock, it was only in the following months and years did the full impact get felt as so many other companies and countries were affected. This week we have had a momentous event and thus far one day of market moves. What makes this situation seem harder to evaluate is the slow burn nature of the changes that are to come and what impact they will have for the UK, EU and the rest of the world.  As a consequence of all this, the advice and research process for structured products as well as other investments is more important than ever.

Looking at the bigger picture post-Brexit the future role of the city of London and what regulatory regimes will be applicable in the UK is one of the biggest unknowns in the whole process. However for the next two years while UK remains in the EU, all existing requirements remain in force as well as those that take effect during this period.

This includes adoption of the PRIIPS retail regulation legislation from January 2017 and MiFID II a year later. In order to achieve passporting of investments between the EU and the UK, one key condition is the ”equivalency” of regulation and governance of national regimes for countries outside the EU. Therefore it is highly likely that the UK will seek to keep or introduce as similar regulatory rules as it can post the completion of Brexit. Since the FCA as often been ahead of the EU in regulatory practices over the last few years it means that the UK will continue to maintain rules to ensure the very best levels of investor protection and market practice.

The FCA played a key role in the drafting of the rules for PRIIPS and MiFID II and it is a shame that it will likely not be able to have direct input to share its expertise into any future European wide investment regulation going forward.

In conclusion there is so much food for thought for all of us, short term and longer term, with so many macro and micro issues to consider. While Brexit is a UK centric phenomenon the ripples are being felt much further afield. Several things are a certainty amongst all the confusion – it is essential to stay up to date on everything that is happening minute by minute and what your clients need. None of us can afford to let the market turmoil distract us from serving our clients and keeping abreast of our regulatory and compliance duties. We are all in for very busy and challenging times.