UK: PM May to Face Mayhem In May?

This will be an important month for UK Prime Minister Theresa May as the UK heads towards local elections on 3 May. The government’s Brexit strategy will remain in the limelight as they approach the 28-29 June European Union (EU) Summit with Brussels.

Citi’s base case is that the government and its Brexit strategy is likely to survive in May, but not without challenges along the way.

Meanwhile, an amended EU withdrawal bill will return from the House of Lords to the House of Commons on 16 May. This could trigger binding votes on controversial elements of May’s Brexit strategy, such as leaving the EU Customs Union.

So far, the debate on the customs union remains an intra-UK negotiation, but the outcome could seriously change the talks between London and Brussels on future trade.

According to Citi analysts, staying in the customs union could limit the economic damage done by leaving the EU – in particular in the manufacturing sector. Avoiding costly and time-consuming paperwork and border checks in goods trade could help UK manufacturers remain part of highly integrated European supply chains.

So far, Citi analysts believe that the UK economy may continue to grow at a moderate pace. However, there is increasing evidence that eurozone growth may slow in a somewhat more protracted fashion, while sterling has recovered somewhat on a trade-weighted basis – erasing some of the gains in competitiveness.

Citi analysts also expect investment to come under pressure later this year as companies put plans on hold until the Brexit cliff-edge is averted in a legally binding way.

As a result, Citi analysts are neutral on UK large-cap equities as Brexit uncertainty is likely to remain a headwind. Although dividend yields above 4% appear attractive, UK consumer confidence has continued to fall since the 2016 Brexit vote and real wage growth has remained slow. Given this backdrop, UK equities are likely to range-trade with higher volatility.