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Boris Johnson Is Underpriced By the Financial Markets

Boris Johnson Is Underpriced By the Financial Markets

(Bloomberg Opinion) -- Sterling is in the dumps as the interminable delay to resolving Brexit is clearly holding back the U.K. economy. Perhaps the contest to choose a new leader for the ruling Conservative party, which started in earnest on Monday, can provide a change in direction for the currency.

After all, the winner will take over as prime minister from the hapless Theresa May, whose groundhog day administration became mired in repeated failures to get a Brexit deal past Parliament. The fact that several of the candidates to replace her are seemingly happy to let Britain crash out of the European Union without an agreement (with bookies’ favorite Boris Johnson foremost among them) has spooked foreign exchange traders. But plenty of people would welcome some kind of clarity, even if it’s of the “hard Brexit” kind.

It’s the uncertainty that’s killing investment and market sentiment toward the U.K. The flipside of this is the sense that people just want to get Brexit done. Michael Saunders, a member of the Bank of England’s Monetary Policy Committee, says the economy will probably move to “significant excess demand” over the next two to three years if Brexit goes smoothly, warranting interest rate hikes.

Boris Johnson Is Underpriced By the Financial Markets

It’s a huge leap of faith, of course, to assume that Brexit will be managed properly, or to hope that May’s replacement will finally break the parliamentary logjam. Sterling traders are still pricing in a long summer of confusion with little progress on the U.K.’s exit strategy and another probable extension to the Oct 31 EU departure date. A no-deal Brexit also figures highly in their calculations. For the time being, this will keep the pound in its narrow recent range of between $1.25 and $1.33. 

The nightmare scenario for traders would be a general election that sees Jeremy Corbyn, the hard-left Labour Party leader, take up residence in Downing Street. Then you’d expect the pound to fall below $1.20.

Still, the ruling Conservatives have one last roll of the dice and one name stands out from the field of 10 contenders to replace May: Johnson, the opinion-dividing former foreign secretary and mayor of London. Most of the fear around Johnson is his embrace of the possibility of a no-deal Brexit on Oct 31 if Brussels doesn’t give ground on May’s deal, with many predicting an economic shock for Britain if this were allowed to happen. But there has to come a point when even a hard break is preferable to the endless negotiations and the resulting uncertainty for business and the markets.

Indeed, a win for Johnson might just provide a surprise lift to the pound if it leads to a cleaner and quicker exit. There’s definitely a sense that we might see a rebound in foreign direct investment from countries in the Middle East and Asia, which have been keeping their powder dry while the Brexit trauma plays out. Traders’ expectations of this waiting wall of money have kept sterling from falling further. 

And there are other potential reasons for a Boris-inspired recovery for sterling. His promised tax cuts for the higher paid are certainly investor-friendly, and he looks like the strongest candidate to rejuvenate the collapsed Tory party and keep Corbyn out of power. Election-winning Conservatives are a rare breed. His two terms as London Mayor show he at least had cross-over appeal in the past.

Most of the other contenders, from Jeremy Hunt to Sajid Javid, don’t really offer much different from May. The former Brexit minister Dominic Raab is even more hardline on Europe than Johnson, but excessively so. 

Of course, Johnson could turn out to be a disaster (and he may not win). His stint as foreign secretary was pretty shameful and his threat to withhold the 39 billion pound divorce payment to the EU – unless a satisfactory deal is delivered – is a high-risk gambit. There’s also a strong chance that Parliament would block a no-deal exit anyway. But at this point you have to ask, which is the greater threat to Britain’s prosperity: Years of uncertainty and wrangling over the EU departure terms, or the clean break that Johnson threatens? Sterling may be on its knees, but clarity should not be underpriced.

To contact the editor responsible for this story: James Boxell at jboxell@bloomberg.net

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. He spent three decades in the banking industry, most recently as chief markets strategist at Haitong Securities in London.

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