Pound Slumps on Scotland Poll -- 7th Update

By Josie Cox and Tommy Stubbington 

Surging support for Scottish independence ahead of a referendum next week roiled markets Monday, sending the British pound sharply lower and hitting stocks in banks and other businesses likely to be most affected by a victory for the separatists.

The turmoil came after a poll over the weekend showed that the number of those favoring Scottish independence had eclipsed those opposing a split, a dramatic shift from a few weeks ago when the pro-union campaign held a strong lead.

"The vote has moved from being something three or four weeks ago that we didn't need to focus on, to something we need to think about [in terms of] how it affects our portfolios," said Paul Lambert, head of currency at Insight Investment, which oversees $472 billion of assets.

Sterling dropped as much as 1.3% to $1.6103, its lowest level since November last year. It traded at $1.6150 as European stock markets closed. The euro gained 1.1% against the pound to GBP0.8016.

Citigroup said in a note that sterling could slump as low as $1.56 in the event of a "yes" vote--a move chiefly triggered by a lack of clarity on what currency a new independent Scotland would use.

In equity markets, companies with large exposure to the Scottish economy were hit hardest, with investors deterred by the uncertainty surrounding the implications of Scottish independence on regulation, tax and therefore revenue streams.

The U.K.'s FTSE 100 index closed 0.3% lower, having earlier fallen as much as 1%. Scottish-domiciled firms including Royal Bank of Scotland Group PLC , Standard Life PLC and SSE PLC were among the fallers.

BNP Paribas credit strategists Gildas Surry and Geoffroy de Pellegars wrote in a note that a vote for independence could "significantly impact" RBS's credit rating, as well as increase compliance, operational and funding costs.

Shares in RBS have drifted 5.6% lower since the start of September.

On Saturday, a YouGov poll showed 47% of those surveyed were now likely to vote "yes" to independence, while 45% would likely say "no." The rest of the 1,084 voters polled Sept. 2-5 said they were undecided or wouldn't vote.

Paul Donovan, an economist at UBS, said that, even if the pro-unionists took the lead on September 18, the latest figures raise the risk of what he dubs a "Québécois scenario"--a narrow rejection of independence that leaves open a risk of a further vote. "We believe this would have implications for banking, gilts, direct investment into Scotland--from overseas and the rest of the United Kingdom--and sterling, " he said.

Alastair Thomas, head of rates and treasury at ECM Asset Management, meanwhile, stressed that, whatever the outcome, the impact was likely to be prolonged. In the event of a "yes" vote, he said, it could take up to 18 months before all the details are agreed.

"One could even imagine a delay in the start of U.K. rate hikes due to economic uncertainty, which is why sterling is being sold this morning," he said.

Already last week, the currency came under severe pressure as polls showed a narrowing of the two camps. Gilts and equities underperformed moderately too, while implied volatility rose.

On Monday, currency strategists at Barclays said that derivatives that protect users from sharp shifts in sterling are seeing ferocious demand.

"The abruptness of the shift in one survey should be viewed with caution, but nonetheless reinforces our long-held view that Scotland's independence referendum is a serious event risk, not a tail risk," they wrote.

The currency has now fallen more than 5% from its high in July of $1.7190.

Government bond markets, however, showed little reaction Monday.

The yield on the U.K.'s 10-year gilt contract was steady at 2.490%.

Nick Gartside, chief investment officer for fixed income at J.P. Morgan Asset Management, which manages $1.65 trillion of assets, said that this was chiefly because the debate isn't materially impacting the U.K.'s perceived ability to service its debt.

"In the U.K., that is exceedingly high and will be no different following any vote or poll," he said.

Back in equities, there are also some investors who are suggesting a silver lining for markets.

"In general, the U.K. consumer sector was hit quite hard by sterling strength," said Colin McLean, managing director and founder of Edinburgh-based fund manager SVM Asset Management. "I think generally a weaker pound could support, especially some of the retailers, as well as other consumer sector names," he added.

Write to Josie Cox at [e-mail] and Tommy Stubbington at [e-mail]