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Research - JANUARY 11, 2019

“No deal” Brexit damage may be limited by inbuilt FX hedge

by Marek Handzel

Any damage caused to asset prices by a “no deal” Brexit may be limited by the United Kingdom’s inbuilt hedge of foreign exchange, according to UBS Asset Management.

In its latest report on the U.K. commercial real estate market, the manager anticipates that if the U.K. does end up having a clean break with the European Union, then property prices will suffer. However, the impact could be softened due to the number of foreign investors that are tied into and focused on the country’s market. It says that a further 10 percent–plus depreciation of Sterling would make core U.K. assets even cheaper in a global context, assuming Brexit is a “relatively isolated event.”

“For example, it would be hard to imagine prime yields in the City climbing much higher than 4.25 percent when yields in Paris, Munich and Berlin are at or below 3 percent,” said UBS in the paper. “The more significant damage is likely to be visible with assets that generally do not attract foreign buyers and therefore wouldn’t benefit from a relative pricing readjustment from FX, as well as assets with a significant level of vacancy risk.”

However, UBS expects to see some “bounce back” in U.K. growth, believing a deal will ultimately be agreed with the E.U., giving businesses clarity for at least the next two years of any transition period during which further details are negotiated over the United Kingdom’s future relationship with the bloc.

Geopolitical risks aside, UBS predicted the “comparatively stable” return profile of U.K. property will continue to look attractive, particularly as stock market volatility is likely to persist throughout 2019. The report adds that if the manager is correct in its view that there isn’t going to be a U.S. or other major economy recession in 2019, then it expects to see another positive year of property returns.

The report also mentioned how the scale of industrial outperformance has continued to take UBS by surprise: “At the start of the year, we forecasted 12.8 percent for industrial against a consensus view of 9 percent, yet in the first three quarters of the year the sector already delivered a phenomenal 12.6 percent, following total returns of 20 percent in 2017.”

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