Local investment in British Pound wanes amid Brexit uncertainty

The prevalent climate of uncertainty since the Brexit process started, and which escalated following Theresa May’s failure to win approval for her withdrawal deal, has lead to a decline in local demand for British Pound investments, a leading Maltese financial advisory firm said.

In comments to BusinessToday just before the United Kingdom’s Prime Minister announced her intention to resign at Tory leader, Jesmond Mizzi, managing director of Jesmond Mizzi Financial Advisors Limited, said that the Maltese used to be avid investors in Sterling, because of the high returns this offered, and the historical links between Malta and the UK.

A diversification by investors into foreign currency, including the United States dollar and the British Pound, was another factor.

However, Mizzi said that over recent years demand for Sterling has waned, particularly since the uncertainty over Brexit.

“Today higher net worth clients would tend to invest in Sterling given the present situation and the higher potential risk given the uncertainty,” Mizzi said.

Asked how the Brexit situation will affect Maltese people who already have investment in Sterling, Mizzi said this all depended on the levels of uncertainty surrounding the issue as Brexit goes along.

“By simply holding the currency, one is already exposed to heightened potential volatility. However, it then all boils down to the type of investment one is invested in,” he said.

He noted that, should the impact on markets be a negative one, the following could be experienced:

When it comes to bonds of UK corporates, these could decline in price and yields could go up. The default probability increases depending on the geographic area of trade. The greater the internal trade, the higher the risk and vice versa. The currency risk is in the hands of the investor if the investment is denominated in GBP.

In the case of Collective Investment Schemes (funds), the decline in prices depends on the weighting of UK based investments within the respective funds. The more global, the better, for risk mitigation purposes. The currency risk is in the hands of the investor if the investment is denominated in GBP.

For GBP hedged Collective Investment Schemes (funds), the decline in prices depends on the weighting of UK based investments within the respective funds. The more global, the better, for risk mitigation purposes. In this case, the GBP currency is hedged against the underlying fund’s currency and the downside risk is kept to a minimum. The exact opposite, however, is experienced if the GBP currency appreciates.

“We do come across investors having Sterling available for investments, and who perhaps are not that keen on converting to euro at this point in time, given the much awaited conclusion of the deal or no deal with the European Union,” Mizzi underscored.

“If we look at interest rate levels should one opt to invest in some of the local banks, interest rate levels would vary between 2% and just over 3%, and obviously, locked in for a fixed term (five years),” he said, “Obviously, one could always opt for other type of investments, available through a broker, but investing directly (or indirectly) in international companies.”

“If one is seeking regular income return, one could potentially invest in UK Treasury Gilts or Sterling denominated bonds or bond funds which distribute income on a regular basis. Investing in direct bonds would entail a client receiving a fixed rate of interest, and current yields on a 10-year Treasure Gilt (i.e. bonds issued by the UK government) are currently yielding just over 1%. Government backed bonds, such as treasury bonds are usually perceived as safe investments.”

“However, this does not mean that anyone investing such bonds would not experience any fluctuations in capital or inherent risks.”
“On the other hand, corporate bonds (i.e. issued by companies) of Sterling denomination and maturing in 10 years’ time would yield investors anywhere between 1 to 5/6%, but subject to the credit quality of the bond being considered – that is, whether the company issuing the bond is considered to be of high quality (investment grade quality) or of a high yielding nature (lower grade quality),” Mizzi added.

Pound falls to near four-month low

This week, the Pound fell to near-2019 lows following the outcome of the European elections last week, and after having been on a general decline for three weeks.

XE.com quoted the Pound-to-euro exchange rate on Wednesday at 1.13, while the Pound-to-dollar rate stood at 1.26, hovering close to January lows.

Market concerns related to the direction the Brexit process will take have been on the rise for a number of weeks, but these have escalated after May announced on Friday that she will resign as Conservative Party leader on 7 June.

Her announcement triggered the start of the process for the successor who will take over as Britain’s Prime Minister, and has opened up the possibility that a hard Brexiteer could lead the UK government.

Boris Johnson, considered the top contender to replace May, has said he would take the UK out of the EU with or without a deal come 31 October.

Further comPounding the uncertainty and complicating the Pound’s outlook are the results of the European Parliament elections, which saw the Brexit Party and UKIP collectively obtain almost 35% of the total vote.

Newly formed and led by Eurosceptic Nigel Farage, the Brexit Party enjoyed a sweeping victory – which saw it win 29 seats – and has intensified the pressure for Britain the withdraw from the EU without a deal.

In contrast, the Tory and Labour parties together only captured slightly over 23% of the vote, while the Liberal Democrats, Greens, Scottish National Party, Claid Cymru and Change UK – all of which support a second referendum – obtained just 40% of the total.

Following the humbling at the polls which left them with just four seats in Strasbourg, the Conservatives are headed towards a significantly harder stance on Brexit, and candidates competing for May’s job are facing pressure to deliver a more clear-cut break from the EU when the UK is scheduled to leave at the end of October.

In the case of a no-deal Brexit, the Sterling is expected to fall as low as 0.97 against the euro and 1.15 against the dollar, the Financial Times reported.

This political uncertainty, including that revolving around the question of who will be Britain’s next leader, is expected to remain elevated, leaving the Sterling in a difficult situation.