The past week has seen a big fall in sterling, largely on the news that firstly a referendum on Britain’s European Union membership will take place in June, and secondly that the leave campaign has some influential backers, chief among them London mayor Boris Johnson.
Most experts expect the uncertainty will persist until the referendum takes place and sterling weakness will continue or even increase.
Among the chief beneficiaries of the falling pound are British exporters, whose goods and service become automatically more competitively priced versus their international rivals’ offerings. This typically improves earnings for these businesses and then share prices.
This was highlighted in Neil Woodford’s recent comments on the implications of a Brexit, followed by similar sentiments coming from Terry Smith, who said a weaker pound is ‘rather good’ for British companies generating earnings in other currencies.
Many European companies have already experienced the upside of a weaker currency since the launch of the European Central Bank’s QE programme prompted a weaker euro. This was a big factor in the strong performance of European equities last year.
With the eurozone economy still close to flatlining, expectations are building that the ECB will initiate further monetary measures in an attempt to stimulate growth.
Whether that takes the form of more quantitative easing or a move deep into negative interest rates, the result will likely be a weakening of the euro. If the pound does not weaken in line with this British exporters will be further disadvantaged.
With Japan and China also taken steps which weaken their currencies, a pound that remains strong could make life very hard for British companies drawing revenue from abroad.
In fact, economic consultancy Fathom Consulting calculated the pound is 30% overvalued on a trade-weighted basis, and regardless of the outcome of the Brexit referendum it should depreciate in the medium-term.
