Almost three years have passed since the famous Brexit referendum which shook Europe from its roots and paved the way for the UK and Europe to start their divorce proceedings.
Needless to say, the period was an eventful one with UK Prime Minister Theresa May having to go back to the drawing board several times to come up with a deal which could please European leaders in order for the UK not to leave without a deal. The targeted exit date was two months ago, March 29. Two months after, UK’s exit has not materialised as the withdrawal agreement reached between the EU and the UK was rejected three times by the UK members of parliament.
On Tuesday, Theresa May made headlines again as it announced a number of promises to be included in the withdrawal bill – one of which – an offer to take the UK to a new referendum. Her proposals were rejected.
The uncertainties surrounding the UK economy took a heavy toll on investors’ sentiment towards the prospects of the UK economy and UK equities. It is no surprise that equity investors remain wary with less clarity about the UK’s future and the possibility of a no-deal UK exit. Yet there are growing signs some global investors are starting to become more positive on UK equities despite many unanswered questions and despite the possibility of more downside as we near the end of October, which is the new exit date.
Going back to three years ago, the pound depreciated, as news that the UK will leave the bloc, hit the wire. Since then the currency lost over 13 per cent against the euro and 15 per cent against the dollar. In addition, markets’ reaction was pretty dramatic as risk aversion kicked in and equities sold off initially. As is usually the case, during periods of heighted volatility, other equity markets in Europe and equity sectors declined. European banks were among the hardest hit as investors questioned the future of the European Union.
In the UK, the FTSE 100, the UK’s index of blue-chip companies, got crushed. However, it started to recover some of the lost ground soon after. The reason being that the UK largest companies, which are constituents of the FTSE 100, generate circa 70 per cent out of their revenues outside their home country. Therefore, such companies are not too dependent on the health of the British economy but more concerned with what is happening outside the UK. In addition, as the Pound depreciated against other currencies, the goods and services sold by these multinational companies on the FTSE 100 became cheaper and hence more appealing. This helped equities to recover.
Some investors and even the quoted companies themselves, believe that UK equities are undervalued
The more domestic FTSE 250 index was evidently more of a concern for investors given that the growth potential of these companies is highly linked to the strength of the British economy. With so many uncertainties surrounding the UK economy just after the 2016 referendum vote, it is no surprise that this market sold off.
Since then, UK equities have come a long way despite the heighted volatility throughout. Yet, UK equities have underperformed other global indices over the past three years. Research shows that, relative to global equities, UK equities have not been so cheap for decades and most fund managers have been allocating less money to UK companies and preferring other global equities. Lately I came across an article which cited a number of acquisitions of UK companies by non-UK companies and also made reference to share buybacks – when listed companies repurchase their own shares from the secondary market. According to this article, these are signs that some investors and even the quoted companies themselves, believe that UK equities are undervalued.
Those investors who share this view, have increased their exposure to UK equities. The fact that the UK economy did not slow down as much as feared, and the global economy holding up well, despite recessionary fears during 2018, helped to boost sentiment. Having said that, there is no guarantee that the only way for UK equities is up. Both domestic and global issues may impact negatively risky assets. In addition, how the UK will leave the European Union in October is anyone’s guess.
Therefore, going forward we should expect market participants to follow more closely both political and economic developments. This week’s European elections and the Brexit debate will surely dominate highlights in the weeks ahead. In the short term markets will react negatively to any negative news and the noise created by the ongoing Brexit saga will keep investors on their toes during summer. In the meantime, more pockets of value will come the investors’ way. With fear, come mispriced opportunities, which may already be available across UK equities.
This article was prepared by Gabriel Mansueto, head of Investment Advisors at Jesmond Mizzi Financial Advisors Limited. This article does not intend to give investment advice and the contents therein should not be construed as such. The company is licensed to conduct investment services by the MFSA and is a Member of the Malta Stock Exchange and a member of the Atlas Group. The directors or related parties, including the company, and their clients are likely to have an interest in securities mentioned in this article. Investors should remember that past performance is no guide to future performance and that the value of investments may go down as well as up. For further information contact Jesmond Mizzi Financial Advisors Limited of 67, Level 3, South Street, Valletta, on 2122 4410 or e-mail gabriel.mansueto@jesmondmizzi.com.