that the active players in the hedge fund industry are commissioning private exit polls on the voting patterns during June 23 2016 when the UK holds the national referendum on membership of the European Union (EU).
They must feel that there is a good opportunity to place profitable trades as YouGov told the BBC that the cost of even a basic and limited sample exit poll is £500,000.
It is not illegal
On a BBC Radio 5 Live broadcast this morning I heard the presenter, Adrian Giles complaining that this was virtually illegal, however, that statement is incorrect.
There is a fully legal aspect of the rules laid down by the Electoral Commission that permit exit polls on the day of the referendum. The findings of such polls which will evolve throughout can be acted upon provided the findings are not published into the public domain until voting closes at 21:00 GMT.
So, legally the hedge funds that commission the polls are fully entitled to receive exit poll updates and trade, if they wish to in an attempt to try and profit from the gyrations in the value of sterling.
Secret polls are not illegal. Pic: Electoral Commission
The argument is that if there is a general sense of agreement as to the voting pattern then the portfolio managers at the hedge funds will tend to draw similar conclusions and so the trading space will become crowded. This may well lead to significant changes in the level of sterling and send an early signal to anyone with a Bloomberg or Reuters terminal or even an “app” on a smart phone and possible influence how they vote or even if they vote at all.
One should not think that this is a new phenomenon. Opinion pollsters have said that at every election their private polling services are often in high demand. One could easily see fresh long positions in the FTSE 100 or All Share being taken if it was felt that a business friendly government would be formed after a general election. Pollsters also warn that early voting patterns have to be treated with the upmost caution as specific voter types are likely cast their ballot at different times of day.
For example, many pro leaving voters are older, maybe retired and so will vote early. Younger voters that may be more in favour of remaining within the EU many not vote until after work hours. Postal ballots will not be included in the opinion polling.
The impact on sterling exchange rates
Whilst the referendum is being described as a once in a generation event, the truth is that we can look at the path of sterling during the Scottish Independence referendum and the general election of 2015.
Sterling sharply sold off in September 2014, to the tune of 3.5% ahead of the Scottish referendum especially when the pro-independence campaign appeared to be on an equal footing just nine days ahead of the vote on September 18 2014. Similarly, sterling suffered again, falling by 2.5% in May 2015 in the build-up to the UK General Election when opinion polls had the Conservatives and Labour on an equal share of the vote.
These events saw sterling sell off in the weeks close to the decision before the actual outcome saw sterling strengthen against most currencies. In fact, when the general election produced an overall Conservative majority it returned to the levels seen before the uncertainty and higher in some cases.
It is not just hedge funds in on the act
The nature of a market is that there are winners and losers on foreign exchange trading. Of course the use of forwards and options does not mean that the daily trade has to end up as a zero sum game.
If the vote goes in favour of remaining inside the EU then one would expect sterling to rise and confidence should increase, even if going forward UK exports to the Eurozone will have become more expensive. So business both large and small may well look to the private exit polls to determine if the wish to obtain a currency option so that they could propose lower than normal offering prices when making a future tender for business.
Therefore, before left-wingers or those that will oppose financial services at every turn start to propose outlawing private exit polls they should be aware that many large scale non-financial employers are also going to make use of all the legal tools available.
Naturally it can work the other way. Say the vote were to be in favour of leaving and sterling fell, why not use options to secure the ability to acquire foreign currency to pay for input materials at a better rate than waiting until the spot value of sterling was disadvantageous. Markets can help everyone.
Manufacturers, service companies as well as financial services operators will all be looking to gain the maximum competitive advantage. The only reason why hedge funds find themselves under attack over this issue is that they are operating at the sharp end of financial services and their stock in trade is money and capital. However, to single such firms out is a ridiculous as it is naïve, for at the end of the day all business have to feed their bottom line.
What are the traders looking for?
Latest EU referendum polling data suggests the leave campaign has been gaining ground; however, the remain campaign is still leading. A survey by the ORB survey put remain ahead on 51% and leave on only 46%.
These latest findings reveal a recent surge in favour of “Brexit”, putting the leave campaign only five points behind which is a substantial shift from the last poll, where the campaign trailed behind Remain by 13 points. In recent days’ issues such as unchecked immigration into the UK appear to be holding greater sway than arguments warning over potential economic slowdown.
So far sterling has not moved aggressively one way of the other. One senses that what would be forex speculators are looking for is a positive skew distribution of sterling values driven by evidence that would imply a strong lead for “Brexit”.
Source: Spotlight Education
In short what they sense is that upside is limited, it is in the market. Therefore they are looking for is the potential to capitalise on a skewed result that would have at least two rounds of effects.
Firstly, as the economic argument for leaving appears weak, sterling would fall and the economy would show signs of stalling.
Secondly, the Bank of England might be obliged to support the economy via a new cut in bae rate and reopening its asset purchase or Quantitative easing programme. Such secondary action would weaken sterling once again.
The extent of the fall in sterling is difficult to quantify but Spotlight’s valuation metrics suggest that sterling is currently 2% overvalued and in real terms the sterling trade weighted level is 5% overvalued relative to its 5- year moving average. The positive skew could see profits on sterling come to 7 or 8% before the currency stabilises.
– Edited by Clare MacCarthy
Stephen Pope is managing partner at Spotlight Ideas