Morgan Stanley said that markets had been expecting a trade deal to be signed. It said no deal would therefore “represent a genuine and negative ‘surprise’ that markets are likely under-prepared for”.
The Wall Street giant said in a note that the FTSE 100 would not be hit because a falling pound would support it. When the pound drops, the overseas earnings of FTSE firms become worth more in relative terms.
Yet it said UK banks stocks would be hit particularly hard, as they are more closely correlated to sterling. It said the 10 to 20 per cent drop would also be driven by a potential interest rate cut into negative territory.
Bank shares have suffered this year, with the Bank of England having already cut rates to record lows. Worries about bad loans have also weighed on share prices.
More domestically focused shares have also had a rough year, with the UK one of the worst-affected economies by coronavirus.
That would get worse under no deal, Morgan Stanley said. “We would see potential for six to 10 per cent underperformance from the FTSE 250,” it said.
The bank said insurers, real estate and housebuilders would be likely to suffer the most. But it said companies with high overseas exposure would benefit from a lower pound.
“We think markets would react with a controlled degree of disappointment rather than distress given that the wider global outlook remains healthy with strong growth expected next year,” Morgan Stanley said.
“A no-deal Brexit would be unlikely to derail the recovery story for European GDP.”