Preparing for Brexit

31 October 2018
2018 has seen a slowdown in global growth and a rise in inflation which gives us a particularly difficult environment for markets. In the UK, we have the “known unknown” of Brexit added to the mix.

As we get closer to the critical dates, it’s really important to understand how your clients’ investments are positioned, the impact that Brexit could have on fund values and, most importantly, gain reassurance that our multi asset team have the skill and expertise to navigate through the murky waters that lie ahead.

This article explains our current views on Brexit, how we’re positioned and the capabilities we have to improve returns and reduce risk within the Royal London governed range.

Brexit view

If nothing changes, the UK will leave the European Union on 29 March 2019.It’s still not clear exactly what shape Brexit will take or, indeed, if it will even happen and with only six months left to go, there are many loose ends and plenty of scope for further political uncertainty.

So what do we really know?  Our base case is that the UK leaves on 29th March 2019 with a deal including a transition period. The impact on sterling and on each asset class is likely to be very different depending on the details of any Brexit agreement. The more disruptive outcomes, such as a hard Brexit, would probably see the Bank of England keep interest rates at low levels, triggering a rally in gilts and a further slide in the pound. In this scenario, we expect that equities could rise, as overseas earnings go up in sterling terms, but property is likely to have a wobble.

On the other hand, an outcome unexpectedly close to EU membership would see the pound strengthen against overseas currencies which would be positive for property but not for equities and it’s likely that gilt yields would rise. Within the portfolios, we hold both equities and commercial property and this offers a degree of risk control from diversification.  

Positioning the Portfolios

With inflation continuing to rise and global growth cooling, we de-risked our portfolios into the summer, reducing exposures to equities and commodities, moving the latter to an underweight position relative to the benchmark. We’ve invested the proceeds into government bonds, short dated high yield debt and cash and are now marginally overweight gilts and enhanced cash with our biggest overweight in short duration global high yield.

Our equity exposure is now broadly neutral although within equities we are still overweight the US and underweight everywhere else. We would however see volatility as a potential buying opportunity for equities given a solid global growth outlook.  We remain neutral on Property within the portfolios, holding an allocation in line with our benchmark and are monitoring cash levels within the fund closely.

The Governed Portfolios are designed for UK pension investors. As a result, the lower risk portfolios hold a bigger exposure to sterling assets because the end clients’ expenditure is in pounds and they don’t necessarily want foreign exchange risk. On the other hand, the higher risk portfolios have more exposure to global assets which will be more impacted by volatility in sterling.

It’s also worth remembering that the UK stock market is heavily skewed towards companies which earn most of their earnings overseas and their profits increase when sterling is weaker. Our view is that sterling exposure across the FTSE All Share is only around 30%.

The table below shows the sterling exposure across all the portfolios as at the end of September. This is driven by allocations to global equities, commodities and global high yield which will change over time in line with our tactical position.

68.13% 73.25% 87.27% 60.48% 66.86% 78.36% 54.08% 59.20 71.97%
89.53% 84.23% 78.75% 73.46% 68.16%


We expect key Brexit decisions to come late in negotiations and involve last minute compromises that no one can forecast fully in advance. Volatility is likely to pick up and we could see some big intra-day moves. For this reason, it’s important that we maintain flexibility in order to adapt and react as events unfold. Typically we will use futures to gain exposure quickly to equities without having to buy physical assets (saving on transactions costs). We also have the ability to take active currency decisions as well as hedge currency to a neutral position in line with the benchmark, based on our views.

Balancing the long term and short term

Our Governed Portfolios aim to strike the right balance between the risk your clients are willing to take and the returns they can expect to receive long-term. Strategic asset allocation (SAA) is the main driver of this and our governance process ensures that the SAA remains fit for purpose on a forward looking basis.

We balance this with a tactical asset allocation process which allows the portfolios to take advantage of short term market movements to either improve returns or to mitigate risk. Typically this is expected to add between 0.5-1.0% on average per annum - over the year to end September, tactical asset allocation delivered 0.4% of outperformance to customers and 1.6% over the last three years, all within the portfolio risk targets.

The chart below illustrates the range of annual returns that we expect for Governed Portfolios 4, 5 and 6 (our most popular portfolios). These returns are based on current market forecasts and historical investment scenarios.

90% of the time we would expect the annualised returns to be in the range highlighted by the white bars and the dot within each range represents the projected average annual return over that period. They also show that the longer you invest the range of expected returns reduces - meaning that over the longer term, annualised returns are more predictable.

Source: Royal London and Moody’s Analytics, as at 31.12.17

Last updated: 31 Oct 2018

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The Royal London Mutual Insurance Society Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The firm is on the Financial Services Register, registration number 117672. It provides life assurance and pensions. Registered in England and Wales number 99064. Registered office: 55 Gracechurch Street, London, EC3V 0RL.