The impact on the remaining UK economy in the event of a Scottish 'Yes' vote is very uncertain: debt burden could increase by as much 10 percentage points to above 100% of GDP, while the public deficit is expected to decline from 2.6% of GDP to 2.3% of GDP, excluding Scotland, in 2016/17. In addition, the current account deficit is likely to deteriorate further from already very high levels.
We estimate a current risk premium of about 1-2% priced into GBP and thus in the event of a 'No', this should cause EUR/GBP to drop below 0.79 almost instantly. Going forward, we still expect EUR/GBP to continue to trade lower towards 0.76 in 12 months. Even in the event of a 'Yes' vote, the case for a lower EUR/GBP based on relative rates remains intact.
We recommend leverage funds to position for a lower EUR/GBP via a 3M risk reversal while EUR- and DKK-based pension funds should increase their GBP exposure via a lower FX hedge ratio.
We advise EUR- and DKK-based corporates with GBP income to hedge FX exposure via option strategies that retain profit potential in the event of GBP appreciation such as forward extra structures.
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