Brexit deal would be rocket fuel for UK equities
The astonishing rally in UK domestic equities in the past week as a Brexit deal with the EU started to look more likely showed how important an orderly exit from the bloc is to the market. If there is more progress towards a deal this week, the little loved sector could be primed for a resurgence in capital markets.
UK stocks have been some of the least loved among asset managers since the Brexit referendum in 2016 but the big price movements of the last week indicated that there is huge potential for growth among big, domestic firms.
Last week brought a rare positive surprise for markets, after talks between UK prime minister Boris Johnson and Irish taoiseach Leo Varadkar led to renewed hopes that the EU and UK could come to a compromise over the border between Northern Ireland and the Republic after Brexit.
The Irish border has proved to be a sticking point in negotiations and the inability to find a compromise had increased market fears that, unable to find a deal, Johnson would make every attempt to ensure the UK left the EU without one at the end of October. On Thursday, markets were surprised and relieved by news that the EU and UK had agreed a new deal framework.
While a cursory glance of the FTSE 100 would have convinced an onlooker that there was little stock market movement on the back of improved talks between the UK and EU, the 2.6% growth in the more domestically focused FTSE 250 showed stock investors were largely positive about the improved chances of a Brexit deal.
Even in the FTSE 100, large UK domestic stocks exposed to Brexit risk have rocketed in the past week. RBS and Lloyd’s for example have risen by over 18% and 16% and Barclays has rallied by over 9%.
Retailers Kingfisher and Marks & Spencer have risen by 12% and 20% in the last seven days and home builder Barratt Developments by almost 14%. ITV and BT have also been strong performers since Brexit negotiations became more constructive, growing by over 10%
The fact that companies have risen across different sectors shows that the UK as a whole looks undervalued. There has long been suspicion among equity strategists that UK stocks could rally should there be a resolution to the crisis that does not involve a catastrophic no-deal exit.
Should Johnson's agreement with the EU be ratified by parliament, or even a long extension approved, then the cloud that has hung over UK equities would lift and this week’s moves may herald a more prolonged rally for UK equities.
A strong bid for domestic stocks should also lead to opportunities for equity capital markets financing and an ideal window in the first quarter of 2020 for UK IPOs.