Brexit Battle Lines Drawn:

Economy & Security vs

Immigration & Cost of Membership

As

the referendum looms on EU

membership, we highlight the main issues
between the Remain and Leave Camps and
we discuss the investment implications of
either staying in or leaving the EU.
BREMAIN vs BREXIT
After several weeks of shuttle diplomacy re-negotiating the
UKs relationship with the EU, Prime Minister, David
Cameron, announced in February this year to hold an In/Out
referendum on EU membership on 23 June 2016. The
referendum has since dominated media headlines with claim
after counterclaim on the risks and benefits of membership.
Fear rather than hard fact has topped the agenda: fear of
World War III breaking out if we leave (David Cameron) or
likening the EU to the Fourth Reich (Boris Johnson).
In favour of EU membership is the (B)Remain camp, which,
according to its website www.strongerin.co.uk, has
assembled an impressive list of international supporters,
across the political and economic spectrum: UK Government,
Opposition Par ties (Labour, SNP, LibDems), Irish
Government, Defence & Security figures, US Federal Reserve,
US President Obama, IMF, Bank of England, EU Governments.
Even popstars Abbas Bjorn Ulvaes reckons UK should not
take a chance on Brexit. The Brexit or Leave camp, by
contrast, has attracted an anti-establishment mix of people
and parties. Its website, www.voteleavetakecontrol.org, lists
politicians like Labours Frank Field, former Tory leader, Iain
Duncan Smith, and former London mayor, Boris Johnson.
UKIP favours Brexit along with Russias Vladimir Putin and US
Presidential nominee Donald Trump.
After initial weeks of skirmishing, key differences between the
camps have emerged. For the Remain camp, staying in the EU
is about protecting UK national security and the health of the
economy. Senior figures in the Police, Armed Forces and
Security apparatus believe UK national security to be
stronger by being part of the EU. On the economy, Mark
Carney, Bank of England Governor, cites economic growth
over many years having benefited from EU membership and
believes leaving will raise the prospect of a technical
recession, penalising growth, raising unemployment and
lowering house prices. The Leave camp has stuck to its main
weapons: immigration and the cost of membership. On
immigration, Brexiters seized on the latest net migration
figures of 333,000 (of whom 184,000 came from the EU) as
proof we have lost control of our borders. Boris Johnson,
himself of Turkish origin, supports immigration but would
prefer a points system allowing us to be more selective over
who enters: we may end up with more highly skilled workers
favouring understaffed professions (NHS, IT) but fewer lower
skilled workers, hur ting areas like construction and
agriculture. On cost of membership, Brexit claim we
contribute gross 350m a week (18bn a year) to the EU, all

10 June 2016
of which will be returned on leaving. In a repor t,
commissioned by Woodford Asset Management, right-wing
think tank, Capital Economics, suggested UKs gross annual
contribution to the EU was closer to 13.7bn, of which we
are rebated 4.8bn a saving of around 9bn a year but
insignificant in the context of a 1.8tn economy.
OPINION POLLS
The UK likes opinion polls, but polls have a habit of
incorrectly forecasting results. Looking over the last 10 12
years, most of us have approved of our EU membership
except for a short period around 2011-12 at the height of
the Greek crisis:
Responses to overall, do you approve or disapprove of Britains membership
in the EU?

Source: Essex Continuous Monitoring, You Gov, What UK Thinks, J.P. Morgan AM, Survation and
ComRes. Data as of 1 June 2016

More recent polls suggest that the gap between the two
camps is narrowing. The BBC Poll of Polls on 6 June puts the
Remain camp on 43% and the Leave camp on 42% with 15%
undecided.
INVESTMENT IMPLICATIONS
Over the last 40 years, the UK has gone from being the Sick
Man of Europe to having one of the largest economies with
world class companies and services, offering a gateway to
overseas investors in the EU. London is without doubt
Europes pre-eminent financial centre. Both Remain and
Leave camps will be acutely aware of the UKs economic
strength and keen to maintain it going forward. We should
not therefore underestimate the investment implications of
remaining in or leaving the EU. Investors should consider
both short- and long-term implications from a macroeconomic perspective (UK economy) and from a company
level.
Since the referendum was announced, Government debt and
equities have generally been firm, but there are signs that
companies have deferred investment decisions pending the
outcome. The economy has also slowed in the first quarter.
However, the main target for investors to date has been the
Pound, which is down more than 6% against the Euro and
more than 1% against the Dollar since the start of 2016 to 8
June (Source: FE Analytics).

MARKET TURBULENCE vs RELIEF RALLY

In the immediate aftermath of the referendum, EU rules and
regulations in force prior to the vote will continue. Should
the Remain Camp win, then the cloud of uncertainty will be
lifted for the foreseeable future. We shall stay part of the EU,
under David Camerons revised relationship. We should
expect a strong relief rally in equities while sterling should
also strengthen, reversing previous losses. There will likely be
a knock-on effect too on property and investment across the
wider economy.
If, however, we vote for Brexit, we can expect a much more
uncertain outcome, at least short term. Equities will
experience sharp volatility, as investors grapple with an
unclear future under new laws. Particular sectors may be hit
harder than others, for example, what will become of
financial services firms which rely heavily on passporting
rights to the EU and what of the future of the City of
London as Europes pre-eminent financial centre? Consumer
sectors could also be hit as people re-assess spending plans if
the economy slows down. The Bank of England stands ready
to stabilise the Pound, which is likely to come under pressure,
increasing costs of travel and costs for business. Until the
picture becomes clearer investors will head for safe havens
like gilts, pushing depressed yields even lower.
Under Article 50 of the Lisbon Treaty, the UK will have a two
year cooling off period post Brexit, in which to re-negotiate
contracts and agreements with EU countries and institutions.
In all probability, we will need much longer, adding to
uncertainty.

attractive to them. Large exporters to the UK like Ireland,

Belgium and Holland, will have to re-evaluate their
relationship.
Brexiters argue that taking full control over sovereignty will
enable us to set our own economic agenda which in turn will
lead to greater prosperity, but in reality access to the EU
Single Market comes with a trade-off in sovereignty. The UK
will have to decide whether to go down the route of
Switzerland or Norway, which have partial access to the
Single Market but at a cost, financially and in terms of
freedom of movement. In any event, EU negotiators are
unlikely to accede readily to UK demands, mindful of creating
an existential threat to the European project from other
countries considering a similar route, encouraged by the
growth in small, vocal fringe parties.
WHAT SHOULD PRIVATE INVESTORS DO?
If Bremain win, it will be business as usual; if Brexit win, a pall
of uncertainty will descend over markets for a period of time.
What is clear from the performance of shares over the long
term, reflected in the US stock market, is that equities endure
economic and political shocks all the time, but for the patient
long term investor, they demonstrate resilience and ultimately
recover. We see no reason why a similar outcome will not
arise after Brexit, and would r ecommend that the best
approach in light of uncertainty is to batten down the
hatches and ensure that your investments are internationally
diversified.
Stock Market since 1900

DOMINO EFFECT
The longer term consequences for investors of a Brexit vote
are far less clear. With more than 40% of UK trade going to
EU countries, our new relationship will be crucial to firms
and sectors. Companies will take stock of existing ties with
the EU and consider how costs, trading relationships,
customer bases, supply lines and legal status are affected by
the decision. Transition costs will be a factor in deciding how
to adjust. Some firms, especially in financial services, may
consider it advantageous to relocate to Europe, while a weak
Pound will assist overseas earners and make UK assets
Source: J.P. Morgan Asset Management
1 Boris

Johnsons paternal great grandfather was Ali Kemal, a journalist and

politician who served as Minister of the Interior in Turkey in 1919
2 The Economic Impact of Brexit Woodford Investment Management

Author

Phillip Hilton
Head of Investments

Source: J.P. Morgan Asset Management

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