Brexit and beyond — Where to from here?

What do the unfolding events in the U.K. mean for institutional investors?

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UK and European flag together © pixelbliss / 123RF Stock Photos The writing was on the wall that if British Prime Minister Theresa May brought her Brexit proposal to a vote on Tuesday, Dec. 11, 2018, it likely wouldn’t have received the support needed to pass. So she decided to postpone it.

Yesterday, she returned to European leaders in hopes of renegotiating the deal — but was met with the clear message that the E.U. isn’t willing to renegotiate.

But what do the events in the U.K. mean for the institutional investors?

“The main thing that it means is that there will be continued volatility,” says Dec Mullarkey, managing director of investment strategy at Sun Life Investment Management Inc., pointing specifically to currency volatility.

“The currency effect is primarily where it’s showing up and then, by definition, any assets you own which aren’t hedged back to your native currency — those are going to show volatility,” says Mullarkey. “Some of it will be fleeting and that’s why institutions can ride that out a lot of times.”

But some assets are more volatile than others, he explains. For example, he says companies in the FTSE 100 index generate much of their revenue outside of the U.K., so they’re generating revenue in other currencies and may not be as affected. “Whereas, if you were actually invested in equities that were very domestically based, smaller cap or whatever, you’d get much more of an effect from that.”

Due to the uncertainty surrounding Brexit, Mullarkey says many have tilted the allocation they would have been putting into the U.K. towards other places in Europe.

“That, frankly, is one of the problems with the longer Brexit goes on, the less investment that’s coming into the U.K. because not only a financial investor, or an asset allocator like a pension fund, but any other company that might be looking to expand — they’re going to hold off on that.”

Yet if investors look through all the volatility, there could be some opportunities for investors, Mullarkey says. Markets generally price in tail events and the worst outcome is that the U.K. has a hard Brexit, at which point the currency would dive and the country would enter a recession, says Mullarkey. But if a deal is reached, markets could rally.

“Markets abhor any type of uncertainty,” he says. “Once things are locked down, even if it’s only a marginal deal, there’s a relief that comes to markets.”

But until there is certainty, Mullarkey recommends that Canadians pension plans consider holding back on allocating to the U.K.

“There are other options for most global asset allocators and so I would underweight the U.K.,” he says. “But paying attention to the news cycle and the developments over the next several weeks . . . if there’s a break and some positive news on where it is going, I think assets are actually going to rally and that could be a . . . good buying opportunity to jump in at that point.”

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