RSM Brexit Stress Index: Factoring in longer-term issues

The RSM Brexit Stress Index ended higher again this week on increased volatility. The composite index, which measures economic stress surrounding Britain’s impending departure from the European Union, closed at 1.74 on Friday from 1.64 a week ago. The foreign exchange market remains focused on Germany’s manufacturing recession and the direction of monetary policy surrounding the euro and short-term interest rates relative to Germany’s trading partners—the pound being an immediate beneficiary. In the longer run, however, the market’s focus will likely return to bigger challenges in the U.K. economy. For instance, growth of business investment in the U.K. has been decelerating throughout the period following the financial crisis ended in 2008, and has been negative for the last four quarters. By comparison, Germany’s fixed capital investment has accelerated—though modestly—throughout 2018-2019. That suggests, perhaps, that the U.K. government’s time and energy might be better spent on bolstering competitiveness and productivity rather than upsetting global supply chains and overseeing the stockpiling of medicines.   Looking forward, the European Union has extended Britain’s deadline to depart from the bloc to Oct. 31, leaving about 10 more weeks of uncertainty. The EU appears to have confirmed its commitment to the withdrawal agreement, leaving the resolution in the hands of U.K. Prime Minister Boris Johnson and the British government.

Performance of index components

The RSM Brexit Stress Index is made up of six components; they include the British pound-euro exchange rate and its volatility, the FTSE 100 and its volatility, the gilt yield spread and the U.K. corporate bond spread. The pound recovered 0.4% of its value versus the euro after a German purchasing managers’ index confirmed the manufacturing recession. The pound also gained 1.2% against a basket of its trading partners amid increased volatility. The FTSE 100 lost -0.3% over the course of the week on higher volatility as talks among U.K., German and French government leaders continued. The yield on 10-year gilts increased by 2 basis points, ending the week above 0.50%. The 10-yr/three-month yield curve remains inverted by 28 basis points on concern over the direction of growth in the U.K. and globally. Corporate spreads narrowed by 2 basis points, as the bond market stepped back its assessment of risk.