GBPUSD outlook more bullish, says Morgan Stanley.
Sterling has slipped to a seven-week low ahead of the Budget, trading below $1.22 for the first time since Theresa May launched her campaign for a clean, hard Brexit back in the middle of January.
But could now be the time to get bullish about the pound again?
Analysts at Morgan Stanley seem to think so, arguing that GBPUSD will return to 1.28 by year-end and by 1.45 by the end of 2018. They stress that GBP is cheap in a historical context and say that short EURGBP is their favourite play.
This seems at odds with most analysts, who remain bearish on the pound as we head towards the uncertainty of Britain’s exit from the EU. The pound is cheap by historical standards for a reason – Brexit. The prospect of worse terms of trade with the EU, a slowdown in hot flows of money to London’s property market, and the likelihood interest rates will remain lower for longer are among the reasons why the pound has fallen and why most still think it will remain low.
Morgan Stanley’s analysts think otherwise, highlighting the determined resilience of the UK economy since Brexit.
The FTSE 100 has risen to all-time highs in the wake of Brexit as the decline in the value of the pound has shaped investor thinking around a pro-earnings view. Weaker sterling translates into higher earnings because so many FTSE companies derive revenues from overseas – in dollars and euros.
Therefore they argue: “The implication of a stronger Sterling is a higher probability of UK market underperformance.”
Sterling’s effect on the market is more than at any time for the last 20 years, an effect of the referendum on the market. This has two important knock-on effects. One is that relative outperformance of UK mid-caps if sterling strengthens, the other is that domestically-focused companies should do better than exporters.
“In a world with few obvious areas of low valuation, UK domestic cyclical stocks stand out as being attractive on the valuation front; however, while the UK economy has continued to surprise with its resilience to date, the risk remains that economic activity will slow down through the year as real disposable income growth moderates and business investment weakens,” says Morgan Stanley.
Morgan Stanley’s analysts highlight a number of shares that might benefit from a stronger pound. They point to Lloyds, Aviva, Prudential, B&M and St James’s Place as the most likely to benefit from a weaker EURGBP level – ie a stronger pound against the euro.
Meanwhile they are overweight on the following stocks which have a high domestic exposure: AA, Autotrader, Lloyds, Marks & Spencer and Whitbread.
Overall they note that stocks in real estate and financial sectors look better off than exporters.