With just under a month before the UK votes to Stay or Leave the EU, below we offer what we believe are the most salient points governing the vote. Taken together, we believe Brexit will be voted down on June 23rd.

For quick reference, an aggregate of the main polls available currently shows a 7 point lead to Stay

Got Brexit? Nope! - Brexit

Three of the most important points that anchor our decision tree:

  • Political – There’s intensely strong political support from UK leadership (including PM David Cameron and Bank of England (BoE) head Mark Carney) met by equally fervent support from the EU partners like German Chancellor Merkel and French President Holland, which we believe will influence the vote to stay in the EU.
  • Financial/Economic – Existing weakness in the UK economy is met with grave fears and concerns that Brexit will negatively impact trade, tax revenue and jobs; and to boot cause the exit of London as a the financial capital.  Conversely there’s very little public conversation or reporting on the benefits of Brexit. We expect this collective economic uncertainty to tip the balance to Stay.
  • Behavioral – From our behavioral psychology reading it’s apparent people generally don’t like change and indecision. Leaving clearly spells huge indecision that we think the majority will choose to fade.

View on Pound Sterling year to date the GBP/USD is flat, and up 6% since a February low. We view the currency cross as poised to accelerate on any more favorable indication of Stay vote outstripping Leave.   BoE Governor Mark Carney echoed this sentiment stating that “my personal view is that the next [currency] rate move is more likely to be up than down in a Remain vote.”

Got Brexit? Nope! - Pound

1.Political:

There’s intensely strong political support from the UK’s main leadership group to Stay, including from PM David Cameron, Chancellor of the Exchequer George Osborne, and BoE head Mark Carney.

The lone opposition comes from the likes of London mayor Boris Johnson, who called the UK Treasury’s analysis on the economic downside risks from a Brexit a ‘hoax’, and the very vocal Nigel Farage, leader of the UK Independence Party (UKIP), who has taken every occasion to paint PM Cameron as a ‘Eurofanatic’. That said, Johnson and Farage have had only limited impact in swaying the vote decidedly to the Leave camp. 

There’s equally fervent support against Brexit from the EU community, including from key partners like German Chancellor Merkel and French President Holland, and even Scottish First Minister Nicola Sturgeon (leader of the Scottish National Party) who, less than two years ago, ran a campaign for Scotland to exit the UK.

The strength of the Eurozone voice to Stay is demonstrated in a recent poll taken by TNS for the publication Le Figaro, showing 78% of Germans, 67% of Spaniards, 59% of French and 54% of Poles prefer that the UK remains a member of the EU.

 

 

2. Financial/Economic:

Why is the economic outlook important?  We believe the declining growth and inflation we’re forecasting, alongside downward projections we’ve seen from the central bank and noteworthy economic institutions will play to the hand of fear mongering that a Brexit will lead to further downside economic pressures. 

Our GIP (growth, inflation, policy) tracking model shows UK 2016 GDP at 1.6%, below the UK central bank estimate and the Bloomberg consensus forecast of 1.9%. Recently, in its Inflation report, the BoE presented a rather subdued medium term outlook for the island nation, lowering its GDP outlook to:

  • 2.0% in 2016 vs its prior estimate of 2.2%
  • 2.3% in 2017 vs prior 2.4%
  • 2.3% in 2018 vs prior 2.5%

Further, the BoE set the expectation that a rate rise would not commence until 2018, underlining the fragile state of the economy.

Got Brexit? Nope! - UNITED KINGDOM

Additionally, in April, the UK Treasury issued an estimate that, over the long term, GDP would be 6% lower by 2030 if the UK left the EU and that Leaving would cost households £4,300 a year, driving home the message of per capita income declines.

And in a second report released this month, the UK Treasury issued a short term assessment that the UK economy would be 3.6% smaller over the next two years if the UK exited the EU. Further it estimated:

  • Public sector borrowing could rise by £24B, increase unemployment by 520-820K and lift inflation by 2.3% to 2.7%.
  • Sterling drop by 12-15%, rise in corporate borrowing costs by 200bps, and the need for increased government bond issuance.

Trade Scares – A big tool that the Stay camp is trumpeting is the impact on UK trade should the country leave the EU.  Estimates show that:

  • ~ 45% of British Exports go to EU
  • ~ 3.4 million British jobs depend on exports to the EU, and
  • ~ 53% of Imports to the UK come from the EU, according to the European Institute

Could the EU member states really set up prohibitive trade tariffs should the UK Brexit?  The answer is unclear.  Switzerland, a non EU member state, has set up hundreds of trade agreements with EU member states. 

So while it’s possible to remain outside of the EU, it’s still unclear how this new found trade status would shake out, which lends itself to fear mongering messaging. And given the strong support from EU leaders to Stay, could a scenario be envisaged in which EU states punish the UK for its decision to Brexit?  Rhetorically, at a minimum, it seems highly probable.

 

… Also supportive of the Stay camp:

London’s Financial Hub Exits – We put material weight on the impact of London losing its financial capital status. While the intricacies of impact on the industry from a Brexit are beyond the scope of this note, it’s worth noting that financially stable and EU/Eurozone member Germany and its financial capital in Frankfurt is one city waiting in the wings.  For reference, and under EU rules, Britain exports more than £20 billion worth of financial services, or ~ 1.1% of GDP. This is no small impact, and important glue that helps to fuel the city of London.

Jobs Crunch – Chancellor of the Exchequer George Osborne has warned that 285,000 jobs in the City of London are linked to business with the EU – 100,000 directly and 185,000 indirectly – and that tens of thousands could be lost if the UK leaves the EU.

Tax Crunch – the UK Treasury warned that tax revenues would fall as a result of Brexit to the tune of a £36 billion hole in funding for public services through 2030. 

Real Estate Crunch – Centre for Economics and Business Research (CEBR) estimates that Brexit would reduce the average UK home price by £2,300 and the average London home price by £7,500 by 2018, concluding that lower immigration after Brexit “would mean less people looking for accommodation – which would reduce the demand for housing.” 

3. Behavioral:

Firstly, our behavior psychology reading from the likes of Daniel Kahneman, Richard Peterson, and Richard Feynman, shows that humans are risk adverse and are routine based (meaning they don’t love change). 

Of note, the WSJ reports that if Britons vote to leave the EU, actually doing so would take years due to the fact that there are 80,000 pages of agreement under 35 chapters to negotiate with the 27 EU members and more than 50 other trading partners. 

Even if the downside risks to the economy are rightly perceived, it stands that there’s a mighty psychological barrier to decide to do something different.  Will this behavior bias show up in polling, we think so!  

Secondly, we suspect that the very strong UK and EU leadership voices to Stay will serve to anchor more Brits to a Stay vote.

Finally, the EU, along with the entire world, is confronted with terrorism.  Despite an anti-immigration stance in the UK, we suspect voters will (marginally) positively weight the UK’s security benefit as a EU member state.  A clear and strong military voice, former CIA Director General David Petraeus recently had this to say in The Sunday Telegraph:

                “As an American with enormous respect for and appreciation of the UK and its citizens, I encourage my British friends to think twice before withdrawing from one of the most important institutions that undergirds Western strength—the European Union… there is no question in my mind that a ‘Brexit’ would deal a significant blow to the EU’s strength and resilience at exactly the moment when the West is under attack from multiple directions. Whether we like it or not, the security and prosperity of both our countries cannot be separated from the political and economic conditions on the continent. There is simply no retreat from this reality.”

Combining the political, financial/economic, and behavior aspects, we see a high probability of a 10% spread favoring Stay.  Stay tuned for June 23rd!