A Noisy Two Days in London Leaves the Status Quo

To sum up the UK’s last two days, everything and nothing happened. Yes, UK Prime Minister Theresa May’s controversial Brexit deal bombed in Parliament on Monday, losing by over 200 votes. Then the opposition Labour Party’s leader, Jeremy Corbyn, tabled the obligatory no-confidence motion in May’s government, threatening to bring her down and force new elections. But surprising no one, her party and its Northern Irish allies didn’t want to do anything that could lead to Corbyn taking power, and Parliament voted 325 – 306 to keep May around. So after two days of political theatrics, nothing has changed. A deal no one expected to pass didn’t pass. A PM everyone expected to remain in office remains in office. And still no one knows what Brexit will look like. Our opinion also remains unchanged: Simply getting on with Brexit, whenever that happens and whatever it looks like, should end the uncertainty that has held back risk-taking and investment, enabling investors and stocks to get over it and get on with life.

Officially, May’s next step is to talk with other party leaders and figure out a Brexit compromise Parliament and the EU will support. She has three working days to create this Plan B, which she must present to Parliament on Monday. We suspect she will take advantage of EU leaders’ tendency to hold emergency talks on weekends in order to get their agreement on something by her deadline.

What that “something” will be is far from clear. Labour is as divided over Brexit as the Conservatives are. The party’s anti-Brexit grass roots and (Tony) Blair-ite wing mostly prefer a second referendum. A few dozen other Labour MPs reportedly prefer a deal similar to Norway’s arrangement with the EU, which the Scottish National Party may also support. Corbyn’s own opinion on Brexit is an enigma wrapped in a mystery locked in a box and buried underground. He has proposed a permanent bespoke customs arrangement between the EU and UK, but whether the EU would bless a customs union that would also satisfy the Conservative Party’s arch Brexit supporters, who want national sovereignty over free trade and regulatory policy, is another matter. And then, of course, there is the matter of the Irish backstop, which kept a large swath of May’s party from supporting her Brexit deal. Looming over everything is March 29, the day Brexit is supposed to take effect. May hasn’t ruled out delaying this, and some of her cabinet members have said it is a possibility. Though, this would depend on the EU agreeing to an extension beyond the two-year exit process stipulated in Article 50 of the EU Treaty.

So with all that in mind, here are a few possible outcomes, in no particular order:

• May, Labour MPs and the SNP strike a deal on “Norway Plus” and get the EU’s backing
• MPs go rogue, voting to delay Article 50 and give Parliament control over Brexit plans and negotiations
• EU leaders write a letter swearing up and down that the Irish backstop will never take effect, MPs vote again on the deal, and it passes
• May’s Plan B is to tell Parliament she needs more time and plans to ask EU leaders to extend Article 50
• May, unable to make progress, resigns, and a caretaker government extends Article 50, buying time for a leadership contest and new negotiations
• Corbyn calls another no confidence vote and wins it, forcing a snap election
• Labour campaigns on a second referendum and wins a snap election
• The Conservatives win a snap election, leaving us where we started
• No-deal Brexit

To call this a cloud of uncertainty would be a massive understatement. When there are so many possibilities, and all have some probability of coming to fruition, it is impossible to make long-term plans. Businesses are stuck in wait-and-see mode. There is a lot of evidence they have made plans for a no-deal Brexit and are ready if it comes to that. Ports have hired thousands of workers on both sides of the English Channel. IHS Markit’s Purchasing Managers’ Indexes show businesses are stockpiling goods. On earnings calls and in interviews, corporate executives have told analysts and reporters they have contingency plans in place. But they can’t execute these plans until they know for sure what they will be dealing with. And it doesn’t take much time for a pre-emptive stockpile to become a supply glut. Hence, delaying Brexit could further stall investment and mess with production schedules and supply chains. If that makes the UK flirt with recession, investors could get even more nervous than they already are.

But if politicians can get on with it, and Brexit happens on schedule, uncertainty vanishes. Businesses will know the lay of the land. They will know the terms of trade, customs and regulations. They will know where it is best to open new factories, research centers, warehouses and offices. They will know how much inventory they should keep on hand. They will know how to adjust supply chains. They will know how many workers they need to hire. As they move forward, and investors see businesses carrying on around them, that should be a powerful positive surprise relative to the disaster everyone expects at the moment. The sort of positive surprise stocks tend to enjoy. 

So at this point, we think any sort of resolution will be bullish—to borrow from classic rocker Tom Petty, on Brexit, the waiting is the hardest part for stocks. But whether politicians can get a resolution soon is another matter. Watch this space for further coverage as the wheels turn.