10 defensive stocks as the Brexit deadline looms

As the clock ticks down to B-Day, here are some classic safe haven stocks in times of economic strife.

It's been just over three years since the EU referendum but it's still not clear what Britain's exit from the EU will really look like - assuming, of course, that it happens at all.

This week, as we edge closer to the next notional departure date on October 31st, we might learn more about the details. And from that, it may just be possible to make a few predictions about how the stock market will react (although there are still plenty of unknowns).

Brexit has been an enigma for equity investors since the starting gun was fired in June 2016. Back then, the 52/48 victory for 'leave' wrongfooted the market and caused sterling to slump and index prices to tumble. 

Stocks sensitive to the UK economy were hit very hard the day after the vote. Banks like Barclays and Lloyds saw their prices fall by around 20%. There were similar swings in cyclicals like the housebuilder Persimmon (LSE:PSN), recruitment group Hays (LSE:HAS) and the car dealer Pendragon (LSE:PDG).

But the effects were short-lived and the FTSE All-Share, although volatile, has gone on to rise by 23% since then. 

Among the many questions now - with an exit possibly just days away - is how much of the impact of Brexit is priced in to the market? And what kind of upside or downside could be on the cards in the weeks ahead?

Reality starts to bite

Trying to infer anything from the morass of political briefings, media reports and ‘expert' commentary (let alone social media) has long been a waste of time when it comes to Brexit. But as the clock ticks down, there is evidence that the market is paying close attention to the mood music around the negotiations. 

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An important barometer here is the value of sterling, which tends to be sensitive to which way the Brexit wind is blowing. A deal between the UK and the EU, with the relative certainty that would bring to the domestic economy, has tended to lift the value of sterling - and that's what we've seen over the past week. With the prospect of a deal seemingly in sight, there has been a relatively sharp rise in the value of the pound. On that basis, it's arguable that a no-deal scenario will likely see the pound come under pressure. But what does that mean for shares?

Well, in tandem with the rise in sterling in recent days, the mid-cap FTSE 250 index has seen the strongest gains, certainly versus the FTSE 100 and FTSE SmallCap. You occasionally see the FTSE 250 being described as a proxy for the UK economy, but in truth revenues across the index are evenly split between domestic and international sources. 

Source: Stockopedia  Year-to-date

So, while there are lots of moving parts in these kinds of scenarios, the FTSE 250 arguably has the most to gain from a deal, because it would presumably offer more certainty over international trade. The disruptions would hopefully be limited - and that’s what the market cares about. By contrast, the FTSE 100, with its financial strength and international outlook, may perhaps be generally better insulated from a no-deal event. 

Being precise about how things may go is tricky, but some researchers have given it a shot. Work by the index provider MSCI last week, stress-tested different potential scenarios that may follow Brexit. It found that a disruptive no-deal could weaken the UK stock market by 15% and see the pound fall by 10% against the dollar. But in the case of a last-minute deal between the two sides, the UK market could bounce by 10%, with the pound rising by 8% against the dollar.

Taking a defensive position

The classic safe haven stocks in times of economic strife tend to be those defensive names that don't do so well in booms, but hold up a lot better in uncertainty. Typically, you can find them among the Healthcare, Consumer Defensives and Utilities sectors. With this in mind, here are the top 10 FTSE 100 defensives based on modest historic volatility and positive price strength over the past year:

Source: Stockopedia

Given the uncertainty, most of these stocks have held up very well over recent weeks - as you'd hope from defensive names. Utilities in particular have broken out strongly, with SSE (LSE:SSE), National Grid (LSE:NG.), United Utilities (LSE:UU.) and Severn Trent (LSE:SVT) some of the strongest movers.

Putting politics to one side, the prospect of Brexit (or whatever follows from negotiations between the UK and the EU) presents specific challenges to stock market investors. These could be short-term in nature or have longer-lasting repercussions, but anticipating volatility is a major part of managing it. Over the coming weeks, the market could be in for an unpredictable ride - so it’s worth considering whether your portfolio is ready for it.

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