Pound Judgment Day means either 10% drop to 30-year low or 5% rally

A campaigner wearing a placard distributes leaflets to members of the public in Manchester, UK on June 11.
A campaigner wearing a placard distributes leaflets to members of the public in Manchester, UK on June 11. PHOTO: BLOOMBERG

LONDON (BLOOMBERG) - June 24 will be a day of superlatives for the pound, whichever way Britain votes.

The day after next week's referendum on European Union membership, the pound will either sink to the lowest level in more than three decades or climb toward the highest this year, according to a Bloomberg survey of economists. Most see a drop below US$1.35 if Britons decide to leave the bloc on June 23, while the median estimate following a victory for the status quo is for it to jump to as high as US$1.50.

A Brexit vote "would certainly be a shock event for currency markets in a way that's pretty unusual outside of major financial crises," said Michael Bell, a global market strategist at JPMorgan Asset Management in London, which manages US$1.7 trillion in assets. "The pound would fall very sharply."

The median estimate in the survey was for the pound to drop to between US$1.30 and US$1.35 a day after a vote to 'Leave', from last week's closing level of US$1.4257, while a range of US$1.45 to US$1.50 was seen if the 'Remain' campaign triumphs.

Preparing for either scenario is important for investors as polls suggest the result of the vote is too close to call. In the past few weeks, the currency has been jolted by a series of surveys showing both sides in the lead, while traders are bracing for even more volatility as June 23 approaches, with a two-week measure rising to a record high last week.

A decline to US$1.30 would represent a drop of about 9 per cent from the current level. A move of that degree on the day following the referendum would be the biggest on record, surpassing tumbles seen during the 2008 financial crisis and on 1992's Black Wednesday, when the British government decided to let the pound float freely. And that's not even the worst case scenario - 14 out of 32 economists surveyed expect sterling to fall below US$1.30, with five of them seeing it lower than US$1.20.

The UK's currency has already dropped more than 3 per cent this year as investors assess the risks of an exit. It reached a seven-year low of US$1.3836 in February after Prime Minister David Cameron announced the date of the vote, and has since fluctuated, often wildly, as polls suggested both sides could still prevail.

Sterling plunged to its lowest since April against the US dollar on Friday (June 10) after a poll showed the 'Leave' campaign taking a 10 percentage-point lead. Subsequent polls have shown a more balanced contest, with many voters still undecided.

A move below US$1.3503 would push the pound to the lowest since 1985. Such a severe depreciation in the currency risks causing repercussions for the wider UK economy, from the soundness of its current account to faster inflation. Weakness in the economy could also delay interest-rate rises from the Bank of England, according to JPMorgan AM's Bell.

"Interest rates are likely to go up much later than they otherwise would" should the country leave the world's largest single market, he said. Meanwhile a weaker economy would reduce the UK's attractiveness for foreign investors, further weighing on the pound, he said.

While the upside to the currency if the UK votes to stay is set to be smaller, according to Bloomberg's survey, a move to US$1.50 still indicates a bounce of more than 5 per cent from current levels. However, only nine out of 31 economists see it going above this level, and seven see it trading close to current levels between US$1.40 and US$1.45.

Some strategists and investors predict the rally in the pound could be fleeting if there's a "Remain" vote, as the UK economy faces difficulties beyond the referendum.

The pound's rally may be even smaller if there's a tight vote to stay, according to Richard Benson, managing director and co-head of portfolio investment in London at Millennium Global Investments, which manages about US$16 billion. He sees sterling strengthening 3 per cent if Britons decide to stay on June 23 provided it's a "solid" victory for the "Remain" camp.

"It could be less than that if the results are very close" as "people will talk about political squabbles" and speculate about the consequences for David Cameron's political future, Benson said.