Bonds and why we're bored by Brexit

Even if investors are really concerned about getting no Brexit deal, there might not be much more upside to Gilts as they are already trading at record tight levels, supported by several destabilising events that since 2008 until today have inevitably compressed yields worldwide.

At the same time, if we look at the Option Adjusted Spread of sterling Investment Grade and High Yield bonds we can see that they have been widening since the beginning of the year, however their levels are similar those seen in 2014 when Brexit was still a remote problem. This means that a meaningful repricing in this space this year has yet not occurred and volatility will put pressure on this asset class only as we approach the Brexit talks deadline in March 2019.

The reality is that in the past few years we have seen many European banks opening up offices or even acquiring banks in London in an effort to diversify their activities. We have therefore seen an increase of the activity of foreign banks starting to do business with UK companies and investing in UK infrastructure.

The Spanish lender Santander, for example, after its acquisitions of three British banks in 2010, is now an important source of funding not only for businesses, but also for UK retail clients who is looking to enter in simple mortgages to buy houses. Another great example is Sabadell Bank which until not too long ago used to be a Spanish bank with activities focused mainly in the Catalonia region of Spain. With its acquisition of Lloyds TSB in 2015, it managed to successfully diversify its operations and partly detach itself from its troubled and unstable home base.

The real question is whether European banks such as these will still be interested in operating in a market outside the European Union which might not have passporting rights?

Of course this is a puzzle that European borrowers are also facing as the absence of passporting rights will drain a lot of liquidity provided by UK lenders. However, I believe that it will be particularly important for the UK because it would isolate its economy even further from continental Europe and the British will need to rely on other sources of funds.

We can clearly expect some volatility from the turbulent divorce between the UK and the European Union but we expect movements in the bond market to remain within range until something more substantial shakes them from their slumber.