GBP: We would expect a 12% to 14%  drop or so on a hard Brexit  - Rabobank

Analysts at Rabobank, explained that investors may have become a little more wary about Brexit risks over the past week they noted that the performance of the pound during the last weeks demonstrate a lot of optimism is still in the market. As a result, the market is likely ill-prepared if a hard Brexit does occur, they concluded. 

Key Quotes: 

“It appears very likely that a hard Brexit would trigger another credit ratings downgrade for the UK. In December Fitch warned about the stresses that a hard Brexit would likely place on the UK’s budget deficit and debt /GDP ratios as a consequence of a lower growth trajectory for the UK. Last October S&P had also warned about the impact of a hard Brexit on the UK’s sovereign credit rate due to the weakened long-term growth potential. Our model estimates that on a hard Brexit the UK economic would shrink by around -1.1% in both 2019 and 2020 and would be 5% smaller by 2032 than our current baseline estimate. As part of a stress testing exercise, the BoE has estimated that as a result of the severest of Brexits GDP could fall as much as 10.5% over a 5 year period, house prices could crash by 30% and unemployment could spike as rates were pushed higher to contain the impact of imported inflation.”

“The shock of the 2016 Brexit referendum provides some clue as to how assets prices could behave on the news of a hard Brexit. Back then, GBP/USD dropped by almost 15% in the days after the vote and lurched even lower in the following weeks. Between September 2016 and early 2017 cable then edged higher, partly as a result of a soft USD and partly on the back of relief that the UK economy had yet to suffer any severe Brexit related fall out.”

“There have been reports that the UK equity market has already suffered substantial outflows as a consequence of political uncertainty. This is reflected in reports of UK stocks offering attractive valuations compared with other European markets. Another knee jerk drop in the pound on a hard Brexit could thus be muted by bargain hunters moving back into UK assets. Overall, we would expect the pound to drop to around 12% to 14% or so on a hard Brexit which would take cable towards the 1.14 area and EUR/GBP towards parity.”