What could Brexit mean for Sterling and Euro exchange rates?
Written by Jonathan Watson on 9 May 2016
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The EU Referendum has been the biggest news on exchange rates in 2016 with large generally downward swings on GBPEUR exchange rates which is bad news for expats reliant on income from the UK or expats considering moving abroad.
Predominantly impacting the pound, the prospect of the United Kingdom, the world’s 5th largest economy, leaving the world’s largest single market is not something to be taken lightly. Whilst the worst fears are not necessarily likely to ring true on exchange rates further volatility and potentially negative consequences must be acknowledged and prepared for.
Sterling had recently slipped to lows not seen since 2013 as investor fears over the potential outcome from Brexit began to sink in. So now with only a few weeks to go what can we expect for the pound and how will this impact expats at home and abroad? Let us look at the potential outcomes and trading ranges and provide a quick overview of options to help mitigate the uncertainty.
Market movements ahead of EU Referendum
Financial markets are principally driven by four factors, economic news, acts of terrorism, God and also political uncertainty. Brexit falls firmly into this latter category representing the undoing of a relationship between the UK and the EU which began back in 1973. 2016 has so far seen investors planning and preparing for the unknown i.e. Brexit. Much of the uncertainty and fear that has led to sterling’s decline is based on the unknown event that is Brexit.
The reality is we just don’t know what to expect. Some commentators from HSBC predicted up to a further 20% decline in sterling’s value which would take GBPEUR down to parity or one for one again.
Brexit supporters on the other hand have claimed the UK economy would become a safe haven free from the shackles of the EU which would flourish, leading to a big rise in the value of the pound. So what is the likely outcome and how can you prepare?
Pre EU Referendum exchange rate fluctuations
In April GBPEUR slipped to lows not seen since June 2014 and it seems highly likely these lows will be retested again as we approach the Referendum date as investors plan for the worst case scenario.
Although interestingly, it’s worth noting that GBPEUR rates have bounced back to mid-1.20’s whilst the current polls show considerable favour to the ‘remain’ camp.
How GBPEUR fluctuations will hit your pocket
Generally speaking a weak pound is not good for expats. Whether you are buying a new home abroad or simply servicing monthly living or running costs, a couple of cents here and there really does add up. Unfortunately for expats in the Eurozone movements since November 2015 to April 2016 have been closer to 20 cents! In most cases a couple of cents can be managed by a tightening of the belt and cutting back on luxuries but 20 cents is different.
On a 1500 GBP income or cost per month (say a pension income or monthly standing order from UK savings) an expat in the Eurozone would be getting 300 Euros less. For a cost of 2000 Euros per month (say for school fees or to pay rent or community costs) an expat would need to find an extra 225 GBP per month just to buy the same amount of Euros each month.
For a foreign property purchase the figures rise dramatically. Buying a €300,000 Villa in Alicante would cost an extra £34,000 at the 2016 lows versus the 2015 highs. Although interestingly this would be £50,000 cheaper than in 2008 with the lows of almost 1 for 1 on GBPEUR! This all goes to show just how important taking stock of currency fluctuations is when planning a move abroad.
A weak pound however is very good for expats returning to the UK or moving to the UK. Some expats will work abroad and send money back to the UK, such a transaction will be much more attractive with sterling weaker. And for expats working who are paid in Euros and need to send money home, the currency fluctuations are an unexpected but welcome pay rise!
Ten year average comparison of GBPEUR
It is worth pointing out last year’s improvements on GBPEUR (to levels over 1.40) were an anomaly with the average level for the last 10 years closer to 1.25. Yes, back in the early days of the Euro GBPEUR was over 1.50 but forgetting last year’s impressive spike at the height of the Greek crisis and with investors expecting an interest rate hike for the UK, rates for the last 10 years have been much lower. Since 2006 expats have been more familiar with levels at 1.20 than 1.40 and anyone living abroad since 2008 will probably have had to contend with rates at 1.10, 1.05 and maybe even the low of 1.02.
So rates in the 1.20’s are frustrating but are not wholly out of most experiences for expats. Should rates continue to slide which is a very real prospect, particularly if we see a Brexit, then expats could have to make some tough decisions. Back in 2008 we saw lots of expats being forced to return to the UK as they couldn’t afford to live overseas. The rate was also very attractive to sell Euros at this time which did encourage movement of funds back to the UK.
I personally don’t believe we will see exchange rates hit the lows some have predicted but would highlight plenty of volatility on the market. Looking at previous politically uncertain events such as the Scottish Referendum and last year’s General Election the pound lost up to 5% in the weeks leading to the votes. Arguably the Referendum is much more important which is why we have seen such a big impact already months ahead of the vote. I expect the swings to be greater perhaps up to a 10% decline which would take GBPEUR in the mid to low teens, this would be my initial bottom rate forecast for June and post Brexit, 1.15.
GBPEUR Fluctuations in 2016 ahead of the Referendum
Rates so far seem to be oscillating between 1.23 and 1.29. This has been the range for 2016 since January, the last time we ended a trading session with GBPEUR above 1.30. And if we look at the big factors that have moved exchange rates they have been key political events in the Brexit debate.
Boris Johnson’s input saw the pound slide, whilst Obama’s views saw sterling rise. I expect fresh news of the leading polls to have a big impact on rates with the polls likely to be the key factor in determining sterling’s performance. Whilst the polls got it very wrong last year, predicting a hung parliament in the UKs General Election, there will still be a heavy reliance on the data.
Potential exchange rate impact after the EU Referendum
Possible exchange rate impact if Britain remained in the EU
The general view is of course GBP strength. I would predict rates back well over 1.30 possibly rising higher to 1.40 depending how strong or weak the Euro is at this time. All of the trading positions that have been liquidated since the end of 2015 should be recovered and there will be a real feel good factor on the market which should help sterling to bounce back higher. From a financial markets perspective, there is a lot more certainty from a Remain vote. As the saying goes ‘better the devil you know’ and with the UK remaining in the EU we know exactly what to expect.
This should lead to a big surge in the value of the pound as investors who have spent the last few months getting out of the pound seek to reinvest. The ‘back to business’ feel good factor from a Remain vote could be quite dramatic as many breathe a sigh of relief and sterling finds favour.
But it won’t necessarily be all plain sailing for expats reliant on sterling incomes. We know already the very prospect of the Referendum has damaged business confidence in the UK economy and this has caused the pound to slide as the economic data comes out worse. Economic surveys in May are all pointing towards declines in business activity which is contributing to further GBP weakness.
Businesses and private individuals at home and abroad are delaying important decisions which is holding back the economy. Nevertheless, the overall position should be good for sterling and even though the polls are fairly mixed the general belief is that the Remain camp will win the vote as voters will be fearful about voting for Brexit due to the unknown element of what it could entail.
Expats living overseas might want to delay any decisions until then but there is of course a risk the UK comes out and rates drop. If you have a currency transaction to make you are better acting sooner rather than later, exchange rates in the 1.20’s are not bad rates and much closer to the last ten-year average levels above 1.30.
If you don’t have an urgent need but are concerned about the potential impact of a Brexit on finances, you could always split up your transaction to do some before and the rest after a vote thereby splitting the risk and ensuring at least part of your deal will be at a ‘better’ level. It’s also worth noting that we offer a forward contract option which allows you to freeze existing exchange rates for a period of up to 12 months, giving you ease of mind in the event a Brexit does occur.
Possible exchange rate impact if Britain left the EU
The biggest problem with Brexit is we just don’t know what to expect. We know what we are moving away from and we know what might possibly happen but there are no guarantees. Of course this could be a counter argument to the Remain vote, we don’t know what the future of the EU is holding but as discussed at the beginning markets don’t like uncertainty.
Brexit, therefore, from a market perspective does hold uncertainty and this is likely to lead to the pound weakening as investors holding sterling assets (pension funds, hedge funds, foreign banks and governments) seek to move elsewhere.
One very important point is that in the event of a Brexit, nothing relating to the EU Relationship will happen immediately. Article 50 of the Lisbon Treaty which governs any countries right of withdrawal provides a two-year period for withdrawal though this period can be extended if all parties agree. The likelihood is that this will be extended well beyond the 2-year period.
Within this period there is time for particular arrangements to be made and it is likely sterling will react to developments in a similar fashion to its behaviour pre Referendum. For example new fresh strides on agreement of any new trade deals would see the pound rise, fresh economic news that the UK economy was struggling would hold back sterling.
A big driver on sterling exchange rates has been UK Interest Rates. Back in 2009 the Bank of England cut Interest Rates to respond to the global economic crisis. As investors and markets have predicted rate hikes the pound has risen. Recently the Bank of England said they were in a very neutral stance. Should the Brexit lead to increased fear over the UK’s sluggish economy which only grew 0.4% in Q1 2016, there might be calls for further interest rate cuts or even more Quantitative Easing which would all contribute to sterling losses.
It isn’t all one-way traffic however for the pound in the event of Brexit, a much weaker pound could present opportunities for businesses to invest in new markets overseas as UK goods and services became much cheaper. Expats abroad returning to the UK or sending money home would be achieving much more for their money. There could be a real bounce in the pound as after a period of weakness there is relief that things aren’t as bad as originally anticipated. The UK is seen as a safe country to invest in and with new trade arrangements there could be new economic benefits that benefit the pound.
Brexit could actually see the Euro weaken. As the most used currency in the EU bloc, there could be a risk the Euro falls in value. Some investors in the Eurozone might question the longer term success of the EU without the UK which would negatively impact Euro capital flows. As such an important figure in the EU, the UK’s withdrawal might increase the chances of other countries leaving the EU too, negatively impacted the Euro.
In short nothing will happen immediately but Brexit will not be good for the pound. The rate is likely to drop as the worst fears of the last few months are realised and everyone braces themselves for what happens next.
The EU is the world’s largest economic area
Post Brexit the millions of EU and UK businesses who trade together are not just going to wither away and shut their shops. UK to EU trade was reported at worth over £200 billion to the economy (FT 2014).
It will be in no one’s interest to make relations overly difficult although of course the EU may want to make life tough for Britain to put other countries off leaving the EU. Part of any deal is almost bound to include acknowledgement of Free Movement of People principles as Norway and Switzerland have had to agree to. This should reassure any expats over the worry of suddenly becoming overnight illegal immigrants in their Spanish villas or French Chateaus. Bearing in mind also article 50 will give expats a minimum of a 2-year breathing space.
Having travelled to many popular expat destinations in Spain and France in the last few years it always amazes me how much the local airports rely so much on UK bound flights. In some remote parts of France there are more flights to the UK than to Paris every day! Expats in the EU number around 1.2 million, they will need to be looked after and reassured.
Expats represent a key contribution to the local economies they serve and no leader in the EU or the UK will be openly trying to make life difficult for the expats.
It's important to remember that British expats were living in France and Spain long before the EU and therefore the worst case scenarios are not likely to manifest in the event of Britiain leaving the EU.