20th June 2017 by Darius McDermott
Brexit negotiations begun this week, almost exactly one year on from the UK’s vote to leave the European Union last June. In the past 12 months, UK companies have largely trod water, waiting to see which way the negotiating winds would blow. Many European companies, however, have been ramping up as their economy shows signs of rejuvenation.
It’s taken Europe a while to look this promising. A panoply of metrics including unemployment, inflation, manufacturing and consumer spending are finally heading in the right direction. Even the European Central Bank’s notoriously-cautious head, Mario Draghi, felt confident enough this month to suggest the region’s nine-year rate cutting cycle may be at an end.
In the most recent reporting season in March, a wave of companies posted earnings upgrades after several years of lacklustre profit growth following the European debt crisis. European equities have remained more reasonably valued than their UK and US counterparts, and so this positive outlook, combined with comparatively cheaper share prices, encouraged many investors back into the market.
On the political front, anti-EU candidates in France and the Netherlands were rejected in national elections, arguably strengthening commitment to the union right when Britain wants to withdraw. Many Brits fear Europe will take a hard line on trade talks, underscoring the economic benefits of staying in the pack to other member states. German and Italian elections are still pending, and so this firmness may be especially important.
If you do like the outlook for the continent, core European equity funds like Threadneedle European Select and BlackRock Continental European offer investors broad exposure to these themes.
Yet all is not lost for the UK. Although much has been made of Theresa May relinquishing her “strong and stable” hand, other commentators suggest a more balanced government could offer a better chance of ‘softer’ Brexit in the long run. The pound devaluing also provides a ‘cushion’ for our weaker economic outlook by making our exports cheaper and more appealing to foreign buyers. It has boosted the largest companies on our stock market, whose revenue earned overseas is worth more when converted back into sterling. This is a mechanism that, in many ways, is denied to the EU, where several vastly different economies are tied together by a single currency.
So, if Britain can hold out through the next few years of negotiations and if global corporations in key industries like finance can be offered sufficient incentives to keep their headquarters in London, there’s a good chance our companies can continue to deliver for shareholders. If you are feeling upbeat, an interesting way to go could be an ethical fund like EdenTree Amity UK. By investing according to a set of social, environmental and corporate governance criteria, its manager Sue Round has a knack of uncovering strong businesses that are well positioned for the future.
Alternatively, you can get both areas in one fund if you so desire. For those who like investment trusts, Jupiter European Opportunities Trust offers a diverse portfolio with just over 30% of the fund in the UK, around 25% in Germany and around 10%, give or take, in each of France, Denmark, Spain and the Netherlands. T. Rowe Price European Smaller Companies also has a nice regional spread, with around 30% in UK and the rest on the continent. If Europe is on the verge of a sustained recovery, it may be a good time to own some of its more innovative, entrepreneurial firms.
Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Darius’s views are his own and do not constitute financial advice.