Referendum Buying Opportunities
This time next week we will know whether the UK wants to leave Europe. That’s pretty scary stuff and the market is certainly petrified. To get the inside track, we listened in on a roundtable discussion with some of the decision-makers at fund manager Invesco Perpetual. Interestingly, they believe that, while a Brexit will cause short-term pain, there will be buying opportunities.
Uncertainty around the 23 June vote has already taken its toll on the economy, accelerating the weaker trend established from the 2014 peak. This has contributed to a decision by Bank of England policymakers to refrain from joining US peers in raising interest rates. A ‘Leave’ vote is expected to set it further behind.
It’s unlikely the Bank will want to promote negative interest rates after the questionable success in other nations, but many in the City are gearing up for further rate cuts in the event of Brexit, before a third round of quantitative easing.
Putting on hold both consumer and corporate investment could also hit the pause button on the UK economy short-term, but Mark Barnett, head of UK Equities at Invesco, doesn’t believe this will last forever.
“Longer-term I think the UK economy can cope with whatever outcome we are presented with because we have a dynamic economy that has adapted to change before and will adapt to whatever change is thrown at us. I’m quite optimistic the UK in the long-term can cope with a Brexit outcome.”
Domestic cyclicals spiral
There’s no doubt that a vote to leave the European Union would shatter equity markets on 24 June, with the sell-off centred around domestic cyclical businesses like real estate, retail, travel and leisure, and housebuilders. This is where Invesco thinks buying opportunities could emerge – especially among the housebuilders.
“In the event of Brexit vote the chance of interest rates going up any time soon is very remote,” explains Jonathan Brown, Invesco’s UK Equities fund manager and small cap specialist.
“The cost of mortgages will remain attractive and the government stimulus programme help-to-buy is still in place. So, we may in reality on a 6-12 month view see a reasonable outcome for some of these businesses. There will be opportunities, but an awful lot hinges on the outcome of the vote in the short-term for smaller mid-cap markets.”
With a number of other factors influencing global equities – including US interest rate policy, November’s American elections, commodity prices and Chinese growth – there has not been a large divergence in the performance of UK equities and mid-caps have outperformed the FTSE All-Share index.
None of the 100-plus companies Invesco Perpetual has spoken to believe leaving the union will be a good thing, but very few reckon it will be the end of the world.
This sentiment is echoed by Barnett: “The best businesses will be able to cope with this kind of change, the challenges are not insurmountable.”
Sterling a mirror of sentiment
While equity markets have held quite strong against the uncertainty of the impending referendum – until last week – sterling has been much more reflective of market sentiment. Some of this risk has already been priced in, but there’s still plenty of room for a knee-jerk reaction post-referendum and it will be the key instrument to watch.
This is bad news for UK mid-caps, but could present buying opportunities in the pharmaceutical, oil and tobacco industries once the dust has settled.
“The countervail enforces if there is a knee-jerk fall in the currency by 5-10%, large-cap UK equities which have predominantly overseas earnings may not be negatively impacted because they have the tailwind of currency translation,” explains Barnett.
The panel urge investors against trading the risk, admitting they have made limited changes to their portfolios – aside from taking advantage of weaker share prices to top up real estate exposure. Good quality companies will still be here come Armageddon day, after all.
Referendum Buying Opportunities