Wealth Intelligence

Brexit: Live well. Sleep well. First Samuel portfolios well positioned.

Key points

  • Brexit reaction bordering on panic

  • At least 2 years before terms of Brexit agreed

  • First Samuel portfolios performing very well: defensively structured

  • Patience will again be rewarded

Market reaction almost panic

The response of global markets to the Brexit vote was almost panic-stricken.  Sterling fell by over 10% and all of the major share-markets fell sharply.  Interestingly, major European markets (Frankfurt, Paris and Italy) fell significantly more than London, suggesting the EU has more to lose from Brexit than the UK.

Share market reaction 2

At least 2 years before terms of Brexit agreed

Thursday’s Brexit vote is not the vote that decides the UK’s fate in the EU.  It is up to the UK parliament to vote.  One would believe that Westminster will ratify the will of the people.  Once that parliamentary vote is taken, then the 2-years-to-negotiate-the-exit-clock begins to run.

So there is much time before the terms of the UK’s relationship with the EU is redefined.  The issue is not the UK negotiating an exit.  That is straightforward.  The issue is the terms under which the UK will in future trade and interact with the EU.

The first point is that this is going to get complicated.  And no-one knows how it will look.

The second is that all the talk of market/ economic Armageddon will come to not very much.  Business will keep on operating.  Markets will keep on operating.

First Samuel portfolios defensively structured

Even before the Brexit vote our clients’ portfolios were defensively structured.  Notwithstanding this position, clients’ Australian share portfolios have performed very well in FY-16.  We shall explain this performance in more detail in our Annual Report and the bespoke client Investment Reviews in July.

First Samuel v Market brexit 2

We have been concerned for some time that the Australian market has been over-valued (i.e. has a high P/E) and that many companies’ future profit outlook did not justify their high share prices.  Hence as we have taken profits we have held cash, waiting for opportunities.  Some opportunities have arisen in recent weeks.

This cash position has been strengthened by three companies that we hold being subject to takeover: Patties Foods, Ausenco and Pacific Brands.  In each case, as so often happens, when the share-market fails to recognise the good value in a company: someone else will.  These positions will provide more cash.

We are happy with this situation.  And to be patient.  We would rather the certainty of a large cash position - over 20% (and forego a possible short-term rally) - than the uncertainty of being fully invested in a very nervous and expensive market.

And this is especially so in times of extreme market uncertainty, as we are now experiencing.

To put this into context, the three critical success factors for share investing (yield; profit growth and P/E) are much better for First Samuel clients' Australian share portfolios than for the ASX200.  Which means that the long-term outlook is very good, both absolutely and compared to the market.

 
Yield
Expected 3-Y profit growth
P/E
First Samuel clients 4.6% 9% 12
ASX 200 4.6% 3% 15
       
First Samuel Advantage 0% +6% +25%

The large cash position has pushed the dividend yield down to match that of the market.  But we have companies in clients' portfolios that expect significantly higher profit growth (and therefore dividend growth) over the next three years.  And, of course, the low portfolio P/E has an asymmetrical advantage: less downside, significantly more upside.

Summary

There is no doubt that Brexit is a significant event.  But the consequences for First Samuel clients will be limited.  And perhaps enhanced with buying opportunities.

We remain very comfortable with the structure and content of our clients’ Australian share portfolios.

And, of course, if you have any concerns, please call your Wealth Strategist: Nikki, Chris, Simon, Jack or Jenny.  Or Anthony or me directly.

  -  Dennison Hambling, CIO