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Brexit and growth/value investing

13 January 2017

What are your thoughts about Brexit and the impact it is likely to have on the UK economy and UK investors?

Since Friday 24th June 2016, the question I have been asked most frequently is: ‘what will the impact of Brexit be?’ Which, in short, I am unable to answer with absolute certainty. The reason we do not know is because, at present, it is far from clear what our trading relationship with the world will be post-Brexit. I believe we can be fairly confident that it will not be as disastrous as the Remain camp predicted it would be and equally, it is clear that it will not be as easy as the Leave campaign would have it. What we do know is what the market response has been and some of the implications which arise from that. The Bank of England pushed interest rates lower and the pound has fallen substantially since the Brexit vote. These moves have supported UK equity market indices that have a high proportion of companies with overseas earnings. Economic data is showing better growth and a stronger consumer than most economists expected. However the FTSE 100 index has fallen in dollar terms and the FTSE local index that looks at companies with over 70% UK sales was down in 2016 against a rise in the All Share index.

Article 50 has yet to be exercised and the negotiations are unlikely to be easy given elections in Germany, France and Holland this year. A lack of immigration may push up wage costs and increase the skills shortage that employers complain about. Tariffs will weigh on exporters but the fall in sterling may counter the impact of this. Inflation due to falling sterling and rising oil prices (oil is not a Brexit effect) may push inflation higher in the short run. Price inflation running higher than wage inflation means that individuals have less to spend and may reduce growth in the first half of this year.

So far the currency has been the big mover. In December, when there were legal moves to delay Brexit and there was talk of a softer Brexit, sterling rallied nearly 5% causing a setback for the FTSE 100 index of about the same proportion. With the Prime Minister talking of a harder Brexit again the currency reversed the move and equities made new highs. The bottom line is that longer term expectations depend on how negotiations go, however the currency and other markets may continue to swing on the comments from politicians that are difficult to predict. We will need to remain vigilant.

Arguably there has been a shift in market leadership between growth investing and value investing. Does LGT Vestra believe this is sustainable and how have you positioned your portfolios to take advantage of it?

Following Trump’s election victory, markets have focused on his plans for increased spending on infrastructure, deregulation of banks and greater onshore oil exploration. Energy stocks and financials have a greater representation in the “value” sector of the market as opposed to “growth”. The energy sector has been a beneficiary OPEC (Organization of the Petroleum Exporting Countries) production cuts which were backed by cuts from non-OPEC countries, thus pushing the oil price higher. However, exploration activity is picking up as a result and Trump’s rhetoric would indicate that oil US production is going to rise which appears to be capping the rise in price. The financial sector has benefitted from Trump’s comments about reduced regulation, as well as from higher bond yields. As these sectors have moved up, there has been talk of a rotation out of growth into value. This was particularly acute in the post-US election rally but has faded as we moved into the New Year. After this valuation adjustment it appears that the market has paused for thought and is waiting to see what Trump actually does. His first press conference since the election on Wednesday gave no detail on what he will actually do. Given the uncertainties going forward and the price moves that have already happened, we are reluctant to chase the move into value at this time. 

 

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