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What the pound's fall means for you

Sterling's downward plunge has implications for various industries and assets, and the investors who put their money into them
October 13, 2016

Just after the vote for Brexit the pound was in turmoil and fell about 11 per cent. Now, sterling is falling again and last week fell to its lowest level in more than 30 years. This was triggered by the prime minister dispelling any idea that the UK was going to backtrack on Brexit and revealing a deadline for setting the process in motion. A so-called 'flash crash' at one point dragged the pound down to $1.18, and although it has recovered it is likely there will be more turbulence ahead.

 

The winners and losers

Foreign tourists are big winners, so UK tourist attractions, and other parts of the leisure industry such as restaurants and hotels also benefit. Other winners include anyone in a hurry to sell a UK asset, such as a house or a company, while exporters now have more competitive goods to sell.

Many companies in the FTSE 100 and FTSE 250 get their earnings abroad, so the likes of HSBC (HSBA), GlaxoSmithKline (GSK) and Wolseley (WOS) are all seeing nice boosts to their share prices. Even the mid-cap 250 index, which has a more diverse group of companies that better reflects the UK economy, is enjoying sterling's pain, since it is populated by commodities companies. Interest rates are low so the dividend yield from equities is more tempting than yields from other markets.

However, if you measure FTSE companies in dollar terms you see that the FTSE is down over the course of the year. Compared with US companies and other peers, UK companies are underperforming over the long term.

Even so, the FTSE may be benefiting from the surprisingly good economic data since the vote for Brexit and the neutralisation - so far - of fears about recession. There is also the prospect of a weaker pound firing mergers and acquisitions activity.

"While we expect Brexit fears to bite at some stage, the strength of the FTSE 100 is reflective of the fact that the Brexit vote hasn't had too much of an impact on the UK economy so far," says Kathleen Brooks at City Index.

Losers include Brits going abroad and car drivers because the UK is a net oil importer and the price of this is going up. Banks' sterling assets are also depreciating. 

What does it mean for investors?

Sterling's fall has already had an impact on equities, and it has also made a difference to the cost of borrowing since the Bank of England has resumed the purchase of bonds. The next few weeks will be tricky.

Much depends on how much further the pound falls. A more sustained sell-off may spook foreign investors in gilts, driving yields higher. Curiously, the way the market works, that may end up halting the pound's fall.

It may also hurt equities, since low bond yields have been a factor in rising share prices by virtue of their inflationary effect on future cash flows of companies.

 

How can I minimise the impact of sterling's fall?

Play the currency markets and hedge against sterling's fall, although it is costly, complicated and by no means foolproof. Alternatively, get on the right side of the pound's weakness: invest in UK exporters, or buy shares in a UK-listed energy company that reports its earnings in dollars.

The other option is to position yourself for the pound's rise. This is based on believing either that: a) sterling has hit the bottom; b) it will rebound on the back of the economy staying resilient; c) Brexit will turn out to be soft; or d) a combination of all of these.

But Sterling could fall further. Many things determine a currency's rise and fall, but in the pound's case Brexit is way ahead of other causes. And since the market hates uncertainty, the chances are that traders' instincts will lean towards selling the pound. Currencies are probably the best proxy for the market's opinion of a country's economy, and when the pound fell sharply in the days after the vote for Brexit, the market had effectively downgraded the UK.

There is never a smooth path up, down or sideways with currencies. Richard Bibbey of HSBC says: "We'll likely see a short period of consolidation before a further period lower. However, if we remain at these levels for a period of time, the less likely it is to materialise."

And more often than not there are influences on the US side that come into play. Hence, the US election, the state of the economy and the prospect of rate rises across the Atlantic can all push the dollar higher against the pound. Similarly, eurozone developments will affect the pound's level against the euro.

This article was first featured in FT Money on 8 October. See the full article, Ten key questions as the pound goes into freefall, at www.ft.com