What should investors do ahead of the UK EU referendum

One week out, the event on every investor’s mind is the UK referendum. The concerns about its outcome are not only being felt in the various markets – sterling is reacting to every opinion poll – but the potential for the UK public to deliver a surprise has likely been at the front of central bankers’ minds this week as well. Indeed, the US Federal Reserve, the Bank of England (BoE), and the Swiss National Bank explicitly discussed their concerns at recent policy-setting meetings.

If the opinion polls are to be believed, the results could go either way. So investors are rightly concerned. The confusion is increased by the differences in forecast between that polls conducted online and those done over the telephone. Online polls typically reveal stronger support for the “leave” campaign, although it should be noted that the share of undecided voters is also higher. Until recently, telephone polls have shown the opposite.

The late surge in support for leaving the EU has come as a surprise to us. But as yet it is still far from clear that a victory is assured. Unfortunately, we won’t know if the polls are reliable or fallible until the official result is declared, by which time markets will have already reacted.

What are investors to do ahead of an event so uncertain and yet so sure to move markets whatever the outcome?

Diversification in such times is a must, but in this instance extra attention should be paid to sterling exposure in assets and liabilities. Beyond this, it may be prudent to think about specific positioning.

Should the UK vote to leave the EU, the only certainty for the markets will be more uncertainty. History tells us that investors tend not to reward greater uncertainty, so we would expect the initial reaction to be negative for the pound and UK equities. We see potential for the FTSE 100, with its large international exposure, to outperform the domestically focused FTSE 250. Negative sentiment in the banking sector could spread across the continent and hit those markets with a large exposure to the sector, such as Italy and Spain. Gilts are likely to outperform under a “leave” scenario, as questions about the economy and the path of interest rates come into question. 

If the UK decides to remain in the EU, it seems likely that uncertainty would decline, which should in turn lead to a recovery for sterling in the first instance. Elsewhere, we would expect the opposite reaction in markets to those mentioned above, but some of the moves may be tempered by the size of the victory. A narrow one may lead many to ask whether the question really has been settled.

Whatever the result, questions will likely cloud the UK outlook for the time being. Even if the UK does choose to stay, domestic politics is likely to remain challenging, and markets will be looking to ascertain whether the referendum-related slowdown in the first half of the year is something more permanent. Our sense is that there should be a reasonably vigorous rebound in activity as delayed business investment and hiring resume. If they don’t, then any gains in sterling may prove relatively short-lived as markets start to question the direction of BoE policy.

All views expressed herein are the views of the named analyst(s) and were prepared in an independent manner including with respect to UBS. The views expressed by the analyst do not necessarily represent the views of UBS as an institution. Neither the analyst(s) nor UBS is promoting or campaigning for any particular outcome in the Referendum to be held in the United Kingdom on 23 June 2016.

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