Investors can afford to ignore the majority of doomsday scenarios facing markets in relation to a potential Brexit, according to PIMCO’s Mike Amey, who says that even if the UK does vote to leave the EU in June, various factors mean any severe price swings in currency, bond and equity markets are unlikely. 
A potential Brexit has been one of the largest ‘known unknowns’ facing investors over the past year or so and nearly all mainstream and financial publications have devoted a significant amount of column inches to the referendum itself – which takes place in little over a month – and the ramifications of a stay or leave vote.
It is clear that fearmongering has been used extensively by both camps in the build-up to the June referendum and there are also many market commentators who argue that the uncertainty surrounding the UK’s future relationship with the EU will have major implications for investors.
We have already seen this nervousness affect certain areas of the market.
Sterling, for example, has weakened considerably relative to the US dollar already this year, credit spreads have widened, domestic facing mid-caps have underperformed international-orientated large-caps and UK funds saw one of their largest ever quarterly net outflows relative to other regions over Q1 2016.
Net retail sales of UK equity funds in £m
Source: The Investment Association
On top of, according to a recent survey by MSCI, nearly two-thirds of investors fear Brexit would push the pound down sharply, 40 per cent argue a vote to leave the EU would pose a risk to the British stock market and 34 per cent of investors say Brexit could lower economic growth.
Worse than that is MSCI’s analysis suggests that a ‘bad’ Brexit – in which Britain’s leaving the EU shatters the eurozone and drags down growth across the world – could cause a globally diversified, multi-asset class portfolio to lose as much as 7.3 per cent of its value.
Effect on asset classes in the event of a ‘bad’ Brexit
Source: MSCI
However, Amey – who is head of sterling at PIMCO and currently believes there is a 60 per cent probability the UK will vote to stay in the EU – says investors should not listen to most of the bearish predictions made by market commentators if Brexit were to happen.
“We think that, even in the event we leave, it would be a fairly long process which would dampen down some of the more extreme versions of market outcomes that one could construct,” Amey said.
For example, Amey believes the initial knee-jerk reaction within the FX market to an ‘out’ vote would be sterling at $1.30 (it currently stands at $1.43). In bonds, Amey expects 10-year gilts to rally down to yields of 1.2 per cent (from their current level of 1.35 per cent).
He also argues that while credit spreads would widen and equities (at an index level) may fall in the event of Brexit, given the market is pricing in uncertainty, the pain would be relatively short-lived.
Amey added: “Now, those are actually relatively benign outcomes.”
“The reason why we think there will be a reasonably stable market response and not the worst case scenarios one could construct is because it is not clear to us that we would invoke Article 50 [the formal mechanism for leaving the EU] immediately.”
“If you physically invoke Article 50, then the rules of the treaty are that you then have a two-year negotiation window which can be extended if both parties agree to do so.”
Therefore, Amey – whose PIMCO GIS UK Sterling Long Average Duration fund has been the best performer in the IA Sterling Strategic Bond sector over five years – says investors can afford to keep calm.
Performance of fund versus sector over 5yrs
Source: FE Analytics
He says there is very little chance the UK (if an ‘out’ vote were secured) would start formal negotiations straightaway and therefore the market is unlikely to prepare itself for a sharp and messy break-up.
“If you think about it from a game theory perspective, if I were one of the EU negotiators and the UK invoked Article 50, then my incentive is to prevaricate as much as I can during that window to put as much pressure as possible on the UK to exceed to whatever requirements I wanted as the clock ticks down to that two-year end point.”
“Now, of course, if I were on the UK side then I would be aware of that. Therefore, what I would really want to do is to have the negotiations before I invoke Article 50 and really have that two-year period as a sign off rather than being in the heat of the negotiations.”
“It’s not clear to us that it would be an immediate and aggressive set of negotiations, it would be quite drawn out.”
He points, however, that there are other factors investors would need to consider in the event of a Brexit. Firstly, he thinks David Cameron’s premiership would come immediately under pressure, the UK would have to create a trade department for the negotiations and that given the upcoming French and German elections, neither country would be keen to negotiate immediately.
Nevertheless, though he says investors shouldn’t be overly complacent, he urges them to remember long-term goals rather than building their portfolio with the upcoming referendum at the forefront of their mind.
“Now, of course, in organisations of our size there are people who think it would be a more systemic event than that,” Amey said.
“I think the way it may become a more systemic event is if we saw a serious hit on European assets, but that is not our central expectation as we think a long drawn out negotiation would temper any sharp market moves and the ECB would also be highly active in supporting the market.”