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Analysis: A Year and a Half Post SNB, Industry Eyes Brexit Stress Test

While executives and regulators are sounding alarm bells that the possibility of Brexit is real, not many hedges are in

About a year and a half after the Swiss National Bank (SNB) induced crisis, the foreign exchange brokerage industry is about to face a serious test. Just before the Brexit vote in the United Kingdom, some executives and regulatory bodies are beginning to ring the alarm bells that it’s time to prepare for adverse scenarios.

The unexpected move of the Swiss franc has caught the market off balance and caused a number of brokerages to incur losses due to clients incurring negative balances.

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In contrast to the SNB experience, brokers have had substantial time to prepare for a Brexit scenario, however not many companies have appropriately devised risk management strategies. For the most part, firms across a number of industries are aware of the risk of an exit of the United Kingdom from the European Union, many have not taken any actions to prepare their coffers for protective risks.

CySEC Warns CIFs on Brexit

The Cyprus Securities and Exchange Commission (CySEC) has voiced its concerns to Cyprus Investment Firms (CIFs) about the risks associated with the outcome from the referendum to be held on the 23rd of June 2016.

With the possibility of excessive volatility across a number of financial markets being elevated, the regulatory body is voicing its concerns that some firms are not prepared to handle the prospective consequences of the Brexit vote.

“CIFs, which are activated in the UK and/or maintain accounts in sterling pound, or offer products with the sterling pound are asked to closely monitor the risks to which they, or/and their customers are exposed or could be exposed and where necessary, take measures to minimize such risks,” a statement issued by the Cypriot watchdog points out.

Financial Executives Unprepared: Greenwich Associates

According to a study conducted by Greenwich associates, over 50 per cent of of corporate treasurers and Chief Financial Officers (CFOs) believe that there is at least some degree of possibility for a Brexit.

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With the polls remaining close, currently at 46 to 44 per cent in favor of remaining within the European Union, British pollsters have a history of being dramatically wrong.

The prognosis about the prospects for Scotland’s to exit from the United Kingdom were unusually tight (which was far from the actual result where the “remain” camp won by 11 points). Last year the forecasts before the latest parliamentary election greatly contrasted with the final result from the vote which gave the Tories an outright majority.

While executives are well aware of a Brexit possibility, very few of them have taken action to hedge their exposure or prepare for an adverse scenario. According to Greenwich Associates, “most corporate officers have not taken any actions to minimize the negative effects of a U.K. exit on their companies.”

Hedges Against Brexit are Rare

Less than 1 in 4 of the interviewees responded that they have put in place some measures to minimize risks related to a Brexit. FX and/or interest-rate volatility have been identified as the main risks by the participants in the study.
Companies are even less prepared for significant changes in regulation that might affect trade an capital movement. Liquidity shortages and rising costs of funding are the other substantial areas that may result in turmoil, especially for companies in the financial industry.

The Managing Director of Greenwich Associates and author of a new report titled “Brexit: Is Hope a Strategy? commented: “These risks are much on the mind of corporate executives, but companies have taken little or no action to mitigate them.”

Beware of Global Market Turmoil

Foreign exchange and CFDs brokers are not only exposed via the British pound. The UK currency may slump sharply as a result from a Brexit vote, but the market stress could be much worse – the outcome of the referendum may spread across broader financial markets resulting in massive turmoil across the globe.

With the referendum scheduled for 23rd of June, markets will luckily be open for business when the results start to come in, eliminating the prospects of massive weekend gaps, and will likely be digested by the brokerage systems in an ordinary manner. That said, market shocks have been frequently associated with quote freezes and while the British pound trades continuously, stock index futures are likely to be closed for trading while the first results from the referendum hit the newswires.

In light of the prospective dire consequences, a number of brokerages are likely to increase their margin requirements on a number of currency pairs and CFDs to be able to minimize exposure to the volatile market conditions both for them and for their clients.

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