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From Pound to Stocks, Brexit Fear Loosens Grip on Markets

From Pound to Stocks, Brexit Fear Loosens Grip on U.K. Markets

(Bloomberg) -- With just 10 days to go before the U.K. is set to leave the European Union and no divorce deal in place, something strange is happening: Markets are getting optimistic.

From the British currency and small-cap stocks to credit spreads and even pollution permits, there are mounting signs that traders are discounting the worst possible Brexit outcome.

The fact Prime Minister Theresa May has so far failed to win parliamentary support for her proposed deal, and that an extension of the divorce process hasn’t been agreed, has done little to dissuade the bulls.

“Consensus appears to be buying into our view that a no deal is increasingly unlikely to materialize,” Barclays analysts including Emmanuel Cau wrote on Tuesday. “We believe that investor sentiment towards U.K. exposure could continue to improve.”

As the EU maneuvers to give May one last chance to pass her deal, here’s a look at what markets are saying about the Brexit outlook:

Sterling Work

The pound has outperformed every major peer this year, rising more than 4 percent against the dollar as traders discarded the possibility of a no-deal exit. Institutional investors as a group since September have been cutting their wagers that the currency will weaken, or the net short position, according to CFTC data.

“The betting market is convinced that there will be an extension, thinks a no-deal exit is highly unlikely and is warming to the idea of a second referendum,” Societe Generale SA strategist Kit Juckes wrote on Tuesday. “That’s not out of line with the way sterling has traded.”

From Pound to Stocks, Brexit Fear Loosens Grip on Markets

Small Victories

Many large companies based in the U.K., including the likes of BP Plc and Rio Tinto Plc, have limited links to the local economy and also stand to benefit from a weaker pound. As a result, smaller British companies have tended to bear the brunt of pessimism over Brexit. The FTSE 250 Index of mid-sized businesses and the AIM 100 Index have both lagged the benchmark FTSE 100 over the past 12 months.

That pattern has changed in this year, and the gauges of small- and medium-sized companies have outperformed the index of big names.

From Pound to Stocks, Brexit Fear Loosens Grip on Markets

Credit Due

In the credit market, no-deal worries haven’t prevented U.K. borrowers from riding a rally. Issuance has been brisk, and Lloyds Bank this week sold the first euro-denominated covered bond by a British company in 2019. It ended up attracting almost 5 billion euros ($5.7 billion) of orders for the 1.5 billion-euro note.

“This shows that investors brushed uncertainty about Brexit to the side,” Joost Beaumont, a fixed-income strategist at ABN Amro, wrote in a note.

Financing costs in the sterling investment-grade space have declined to their lowest since September. Meanwhile, U.K. issuers included in the Bloomberg Barclays euro investment-grade index have performed broadly in line with the benchmark this year. Some financial names -- including Barclays, Lloyds Bank and Phoenix Group -- have tightened far more than average.

From Pound to Stocks, Brexit Fear Loosens Grip on Markets

Carbon Footprint

Carbon allowance prices face a potential plunge if Britain crashes out of the EU, because the U.K. is a key member of the bloc’s emissions trading system -- it has more than 1,100 factories, utilities and aircraft operators covered by the cap-and-trade market. In a no-deal scenario these firms could sell the stockpiles of carbon permits they hold.

Yet in a display of confidence, the price of carbon has risen by more than 4 percent over the past month.

From Pound to Stocks, Brexit Fear Loosens Grip on Markets

Gilts Less Sure

One place where optimism hasn’t been so pronounced has been in the government bond market. The yield premium offered by 10-year British bonds over two-year securities has dropped to near the lowest level since 2016 as investors seek the safety of longer-dated debt.

From Pound to Stocks, Brexit Fear Loosens Grip on Markets

--With assistance from Tasos Vossos, Mathew Carr, John Ainger and Cecile Gutscher.

To contact the reporters on this story: Eddie van der Walt in London at evanderwalt@bloomberg.net;Charlotte Ryan in London at cryan147@bloomberg.net

To contact the editors responsible for this story: Samuel Potter at spotter33@bloomberg.net, Todd White

©2019 Bloomberg L.P.