Investors should be cautious around UK gilts and the pound now the country has formally commenced its departure from the European Union, according to Pimco.
United Kingdom Prime Minister Theresa May triggered Article 50 of the Lisbon Treaty on 29 March 2017, commencing the two-year negotiation process prior to the country’s departure, and Pimco head of sterling portfolio management Mike Amey said the “likelihood of a ‘hard Brexit’ remains high”.
Mr Amey said the UK intends to “work out any new trading arrangements concurrent with negotiations over its exit bill” but that the complexity of these negotiations will make it difficult to achieve this.
“If this is not possible, today’s letter [from Ms May to European Council President Donald Tusk] makes clear that the UK remains willing to walk away and revert to World Trade Organisation trade arrangements, although the Prime Minister makes the rather strong statement that this could adversely affect security co-operation,” he said.
“To date there is no indication that the European Union will soften its stance, which remains settling the exit bill before moving on to discuss future trading arrangements.”
Mr Amey said the weakening in the pound and “modest rise” in gilts that followed the commencement of the departure process were “logical moves”, but that the outlook for equities and UK companies “remains more nuanced”.
“As such, we believe a modest underweight to sterling together with an underweight to UK gilts remains a good risk combination,” he said.
FXTM research analyst Lukman Otunuga said the pound “could be in store for a rocky rollercoaster ride” and that Brexit risks have not been fully priced in to the currency yet.
“There is already an air of unease over potential complications in the negotiations with the EU’s demand for a £50 billion Brexit bill acting as the first test which may create serious headwinds,” he said.
“Sentiment remains firmly bearish towards the pound moving forward and the potential resurgence of hard Brexit fears could ensure price weakness becomes a recurrent theme.”