Mark Martin, head of UK Equities and manager of the Neptune UK Mid Cap Fund, takes a closer look at the potential impact of a Brexit on the UK economy, and explains how he is positioning his portfolio as a result.
Recent electoral outcomes suggest a risk averse, conservative British population; indeed, such risk aversion is likely to have increased with current heightened global economic fears. That said, while we do not anticipate that the UK will leave the EU, Brexit remains a clear possibility of which investors in the UK stockmarket need to be mindful. Protecting holders of the Neptune UK Mid Cap Fund from downside risk has been a big priority over the past seven years, and that continues to be the case. I have made some minor adjustments to the Fund’s positioning as a result to help hedge against the potential volatility that could arise in the coming months.
Concerns have reignited in the market over the impact of Brexit on the UK. This has been most visible in the weakness of sterling, which I believe is likely to continue if momentum behind the Brexit campaign increases. The UK is running an extremely large current account deficit – relative to GDP, the second biggest in the world only to the US – which makes any reduction in trade and capital investment particularly harmful. Foreign investment has gone a long way in plugging the deficit, but if we leave the EU there is no doubt it will be less appealing to do business with the UK. New trade agreements will have to be drawn up, which could take many months, if not years. In the meantime, the currency would have to weaken significantly to help our exporters fill the void.
I am therefore wary of areas that have the highest exposure to sterling weakness, such as the London property market. I profited from being overweight housebuilders between 2009 and 2013, but I believe the potential for sterling weakness could put a strain on valuations, which are currently at elevated levels. The only direct exposure I have to London property is via brewery company Fuller Smith & Turner, but I have been reducing my weighting of late.
Weaker sterling could also have a knock-on effect on consumer and economic confidence, so I would also expect some pressure on retail and consumer facing companies. The Neptune UK Mid Cap Fund is currently underweight consumer discretionary. We have also gone some way in hedging the risks of weaker sterling and indeed a weaker UK economy with our overweight US dollar and euro exposure – particularly through our healthcare names. These companies have fundamental drivers, but their international exposure is an added bonus.
While investors must be mindful of the political uncertainty and of concerns over broader macroeconomic factors, there are reasons to be optimistic. We have a lot of faith in the UK domestic recovery, which stands to benefit mid cap companies. Fears over Brexit and the global economy have led to widespread selling, and I’m finding a lot more value right now than I was six months ago. It could well be that there will be an even bigger buying opportunity in the coming months, but in my experience market timing is extremely difficult. I have been topping up exposure to the companies I have the most conviction in of late, including Paypoint.