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Citigroup's investor guide for No-Deal Brexit, or a Corbyn upset

[HONG KONG ] Investors looking at the UK need to get to grips with two high-impact scenarios: a cliff-edge EU exit and the advent of a Labour government, Citigroup Inc. analysts said in a report game-planning Brexit risks.

"Little time and scope for a deal on future UK-EU relations is left," Christian Schulz, director of European research with Citigroup Global Markets, wrote in a note Monday. "A ‘transition-only' withdrawal deal is now base case, but the risk that UK politics lead to an accidental ‘no deal' is non-negligible."

A government led by opposition Labour leader Jeremy Corbyn could mean "maverick" economic ideas -- but a softer Brexit that could offset investment concerns, Schulz said. A no-deal scenario could trigger a "large one-off shock to UK output" and would be especially harmful to manufacturing and financial services, while inflation would rise, he said.

Here's a look at the implications for UK assets under Deal, No-Deal, or Corbyn-government scenarios, according to Citigroup:

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Gilts

Fiscal risks would be highest if Corbyn becomes prime minister due to a Brexit-triggered general election, with the possibility of greater government-bond issuance weighing on the long end of the yield curve, according to rates strategist Jamie Searle. A No-Deal scenario would likely lead to emergency interest-rate cuts, while a Brexit deal means earlier and faster rate hikes -- potentially as soon as May, he said.

The Pound

Under both the Corbyn and the No-Deal scenarios the pound would reach a new low, with an estimated 5-to-10 per cent depreciation in the currency's trade-weighted index, foreign-exchange strategist Jamie Fahy said. On the other hand, a transitional Brexit deal could see the pound bounce back in a 2-to-5 percent relief rally, he said.

Stocks

A No-Deal or change in government would threaten UK stock returns, which have thus far topped fixed income and currency assets, wrote equity strategist Jonathan Stubbs. In the case of a Corbyn government, investors could adopt a hedged strategy that leans on stocks with high international exposure, surplus free cash flow and strong balance sheets, he said.

A Brexit deal would suggest a continuing "dividend bull market" for UK stocks, with more to come next year -- boosted by dividend growth in financials and commodities, Stubbs said. A stronger pound would be supportive of domestic shares in a Deal scenario, with real estate, financials and general retailers getting a boost while pharmaceuticals, beverages and tobacco would struggle, he concluded.

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