Brexit Investment Strategies

Investors may have noticed that the pound is in free fall and heading towards US$1.20. That’s near the low after the initial Brexit vote. Pundits, not that they can be relied on for forex forecasts, suggest it could go lower now that we seem to be heading for a “no-deal” Brexit.

With the pound falling, and potential damage to the UK economy from a hard Brexit, investors should surely have been avoiding companies reliant on UK sales, or UK consumers, or those such as engineers and manufacturers that rely on just-in-time deliveries from Europe. The key has been to invest in those UK listed companies that make most of their sales overseas in areas other than the EU.

One such company that announced interim results today is 4Imprint (FOUR), a supplier of promotional merchandise. Most of its sales are in the USA and its accounts are in dollars. Revenue in dollar terms was up 16% at the half year and pre-tax profit up 22%. The share price rose 6.5% yesterday and more this morning but the former suggests the good news leaked out surely. With the added boost from currency movements, this is the kind of company in which to invest but there are many other companies with similar profiles. For example, many software companies have a very international spread of business, or specialist manufacturers such as Judges Scientific (JDG). Those are the kind of companies that have done well and are likely to continue to do so in my view if the US economy remains buoyant and the dollar exchange rate remains favourable.

The other alternative to investing in specific UK listed companies with large export revenues and profits is of course to invest directly in companies listed in the USA or other markets. But that can be tricky so the other option is to invest in funds such as investment trusts that have a global spread of investments with a big emphasis on the USA. Companies such as Alliance Trust (ATST), Scottish Mortgage (SMT) or Polar Capital Technology Trust (PCT) come to mind. Alliance Trust has a one-year share price total return of 11% according to the AIC and the share price discount is still about 5%. I received the Annual Report of PCT yesterday and it makes for interesting reading. Net asset total return up 24.7% last year and it again beat its benchmark index. The investment team there has been led by Ben Rogoff for many years and what he has to say about the technology sector is always worth reading. Apparently the new technology to watch is “software containerisation” which is compared to the containerisation of cargo shipments in its revolutionary impact.

Another interesting comment is from the Chairman complimenting Ben on having the skill of buying shares and holding those which go on to outperform, but also knowing when to sell at the right time which the Chairman suggests is not common in fund managers.

Another hedge against a hard Brexit is to invest in companies that own warehouses because a lot more stockpiling is already taking place as a protection around the Brexit date by importers, but also more will be required to hold buffer stocks for manufacturers in the future. Companies such as Segro (SGRO), Tritax Big Box (BBOX), and Urban Logistics (SHED) have been doing well for that reason. They have also been helped by the trend to internet shopping which requires more warehousing space and less retail space. These trends are likely to continue in my view and the retail sector is likely to remain difficult for those retailers reliant on physical shops. You can see that from the results from Next (NXT) this morning. Shop sales down while internet sales up with the overall outcome better than expected as on-line sales grew rapidly. Anyone who expects the high street or shopping malls to revive is surely to going to be disappointed in my view.

There are bound to be some problems for particular sectors if we have a hard Brexit. The plight of Welsh sheep farmers was well covered by the BBC as Boris Johnson visited Wales yesterday. Most of their production currently goes to Europe but they may face 40% tariffs in future. The Prime Minister has promised assistance to help them but they have been heavily reliant on subsidies in the past in any case. There will need to be some difficult decisions made about the viability of farming on marginal land in future.

The falling pound has other implications of course. It will help exporters but importers will face higher prices with the result that inflation may rise. However, there are few products from Europe that cannot be substituted by home grown or produced equivalents, or by lower cost products from the rest of the world. With import tariffs lowered on many imports the net effect may be very low in the long term. But it will take time for producers and consumers to adjust. Tim Martin of JD Wetherspoon is well advanced in that process so you can see just how easy it will be to adapt.

In summary, investors should be looking at their current portfolios and how they might be impacted by Brexit now, if they have not already done so. There will clearly be winners and losers from the break with Europe and investors should not rely on any last-minute deal with the EU even if Boris is expecting one. Any solution may only be a temporary fix and the policies suggested above of international diversification are surely wise regardless of the political outcome.

Note: the author holds some of the stocks mentioned.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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AssetCo, Patisserie, Stockpiling, Warehouses, Sheds, Brexit and Venezuala

A week ago, an award of damages of £21 million plus interest and costs was made against Grant Thornton for their breach of duty when acting as auditors of AssetCo Plc (ASTO) in 2009/10. See https://www.bailii.org/ew/cases/EWHC/Comm/2019/150.html for the full judgement. I understand Grant Thornton may appeal. These are the key sentences in the judgement: “It is common ground that in those years the senior management team at AssetCo behaved in a way that was fundamentally dishonest. During the audit process management made dishonest statements to GT, provided GT with fabricated and massaged evidence and dishonestly misstated reported profits, and provided GT with flawed and dishonest forecasts and cash flow projections. Outside of the audit process, management were engaged in dishonestly ‘overfunding’ assets (i.e. misleading banks as to the costs of new purchases etc so as to borrow more than was permitted), misappropriating monies, dishonestly under-reporting tax liabilities to HMRC, concluding fraudulent related party transactions and forging and backdating documents. GT accepts that it was negligent in a number of respects as the company’s auditor in failing to detect these matters…”

In 2012, AssetCo (ASTO) was forced to make prior period adjustments for 2010 that wiped more than £235m off its balance sheet. AssetCo was, and still is, an AIM listed company now operating in the fire and emergency services sector.

This is undoubtedly a similar case to Patisserie (CAKE). According to a report by Investors Champion, former Chairman Luke Johnson suggests it “has possible relevance for a claim against Grant Thornton” and he will be pushing the administrators to instigate similar action. Let us hope it does not take as long at ten years and millions of pounds in legal costs which administrators may be reluctant to stand.

According to a report in the FT, manufacturers are stockpiling goods at a record rate in anticipation of supply chain disruption from Brexit. Importers are also stockpiling goods – for example Unilever is storing ice-creams and deodorant such as its Magnum ice-cream bars which are made in Germany and Italy. There is also the increasing demand for warehousing by internet retailers, even for smaller “sheds” to enable them to provide next day or even same day delivery.

Big warehouses are one of the few commercial property sectors that has shown a good return of late and I am already stacked up with two of the leaders in that sector – Segro (SCRO) and Tritax Big Box (BBOX). On the 31st January the Daily Telegraph tipped smaller company Urban Logistics REIT (SHED) for similar reasons and the share price promptly jumped by 7% the next day wiping out the discount to NAV.

There has been much misinformation spread about Nissan’s decision to cancel manufacture of a new car model in the UK. They denied it was anything to do with Brexit. This was to be a diesel-powered model and as they pointed out, sales of diesel vehicles are rapidly declining in the UK. The same problem has also hit JLR (Jaguar-LandRover). One aspect not taken into account in many media stories was that Japan has just concluded a free trade deal with the EU. Japanese car manufacturers no long need to build cars in Europe to avoid punitive tariffs. Where will the new vehicle now be made? Japan of course!

There has been lots of media coverage of the politics of Venezuela and its rampant inflation. A good example of how damaging extreme socialism can be to an economy. Over twenty-five years ago it had a sound economy and I had a business trip scheduled to visit our local distributor there. But at the last minute the trip was cancelled after a number of people were killed in riots over bus fares. I never did make it and I doubt I will ever get there now.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Hedging Against Brexit

As we edge towards an abrupt Brexit as agreement with the EU has turned into a game of chicken, it’s worth considering some options. Or as my M.P. Bob Neill said about divorce on Twitter “the current system of divorce creates unnecessary antagonism in an already difficult situation” (he was talking about personal divorce in the UK as head of the Justice Committee but our EU divorce is looking very similar – acrimony is the word for it).

Perhaps the Prime Minister will find a way through to a sensible settlement now she is reported to have personally taken charge of the matter. But as investors we should not rely on such a chance.

One solution is simply to move your share investments into companies that are listed overseas and do most of their business elsewhere than the UK. Don’t wish to buy overseas companies directly? Simply buy one of those “global” investment trusts or trusts focused on particular sectors – Europe, the USA, China, India, et al. Or ensure you invest in UK companies with large exposure to overseas markets other than the EU – there are lots of those.

One aspect that caught my attention this week was the suggestion that the UK should stockpile food and medicines to ensure there were no shortages. But taking food alone, fresh food does not generally keep for very long unless you have a refrigerated warehouse. Even then there are limits. As one supermarket chief was reported as saying in the FT today that it was “ridiculous” and showed “complete naivety”. The reason is simply that supermarkets and their suppliers operate “just in time” systems where deliveries often depend on overnight shipping of goods from Europe. Likewise car manufacturers and other engineering companies rely on complex supply chains that depend on the same “just in time” processes and very quick delivery times. There is a solution to this problem which is to store more items. Non-perishable goods can be stored for a very long time to provide a buffer to the flows of goods. One hedge tactic might therefore be to invest in warehousing companies – Segro and Tritax BigBox REITs come to mind (I own them), although Lex in the FT suggested today that “optimism is already baked in” to the share price of Segro after their interim results announcement. The share prices of those companies have been driven by the internet shopping boom where goods are held in warehouses rather than shops, and rapid delivery is essential. More warehouse demand caused by Brexit might add another wave of warehouse building and increase rents.

When it gets nearer the date next March for Brexit, perhaps we should be doing some personal hoarding of French cheese, Dutch salami and German sausages to guard against short-term supply chain disruptions, but I doubt I will be panicking. UK producers can gear up and many other suppliers in the rest of the world will suddenly find they are much more price competitive. Tariffs on imports of food from outside the EU can currently be very high (e.g. an average of 35% on dairy products which is why you don’t see much New Zealand or Canadian cheese in the shops lately – see https://www.ifs.org.uk/uploads/publications/bns/BN213.pdf for details).

That does not mean of course that food will be much cheaper as the UK Government might impose some tariffs to protect our own farmers, but you can see that it is quite possible that the supply chains will rapidly adapt once we are outside the EU regime. But long haul supply lines will require more warehousing and more dock facilities.

Or our Government could take the Marie Antoinette approach to food shortages – “let them eat cake” she said, or “let them buy British products” instead perhaps. Was that not a past Government campaign which could be revived? Such “Buy British” campaigns ran in the 1960s and 1980s to inform my younger readers. I am of course joking because so far as I recall they had little public impact. They did not have any influence on the preference to buy German or Japanese cars, although many of the latter are now made in the UK. But in a new post-Brexit world we should expect some surprises and the need to change our habits.

One joker suggested we might need to eat more non-perishable food, i.e. tinned peaches rather than fresh. But that just shows that there are ways around every problem. If the current heat wave persists we will of course be able to grow our own peaches. But betting on the weather is as perverse as betting on the outcome of Brexit. All I know is that we are likely to survive it. Hedging your bets is the best approach.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Property Companies and TR Property AGM

Yesterday I attended the Annual General Meeting of TR Property Investment Trust (TRY). I have held shares in this company for a long time, and it’s always useful to attend their AGM as you get a useful update on trends in the property market from the fund manager (Marcus Phayre-Mudge of late). As he mentioned, the fact that they hold property directly, as well as holding shares in property companies gives them a unique insight into the state of the market.

Apart from holding TR Property, I also hold some direct property company shares which are British Land, NewRiver, Segro and Tritax Big Box. Not claiming to be a property expert, have I made the right choices there? Answers will be obvious later.

Segro announced their interim results yesterday also. Segro, like Tritax, are focused on large warehouses. They reported adjusted eps up 6.5%, and NAV up 2.6% with the dividend increased by 4%. The share price rose 2.8% on the day and has been in a strong positive trend in the last few months. Marcus was particularly positive about the Segro results and said there was tremendous rental growth in that sector with a 94% retention rate which is remarkably high. So no problems there.

As Marcus made clear, the property market is at present only doing well in certain sectors and certain geographies. TR Property is very well diversified though as it covers the whole of Europe (one might consider it as another of those Brexit hedging stocks with only 36% of holdings in the UK and they have been reducing that). The commercial property market is somewhat cyclical and was expected to decline in the UK, particularly after the Brexit vote. London offices were perceived as being vulnerable. There is also the impact of the internet on large retail stores. They are reducing exposure to retail but not to convenience stores. Shopping habits in the UK are clearly changing substantially, but less quickly in the rest of Europe. Marcus said they have been trying to focus on buying more physical property but the market has been surprisingly strong.

Switzerland, Benelux and Sweden were the worse geographic areas, and one shareholder commented very negatively on the political and social problems of late in Sweden. Rental growth in Paris and Stockholm is taking place and we might even get some in Spain as properties are filling up.

He made it plain that two sectors are performing well in the UK – “big box” warehouses, and convenience stores. So my holdings of Segro, Tritax and NewRiver are in the right place. But TR Property also hold those two big companies of British Land (pedestrian performance of late with asset value declines) and Land Securities (now renamed Landsec – Marcus said he hoped it did not cost them much to change). He has a bigger holding in the latter, but apparently he may not be totally happy as he mentioned he held a meeting with them recently, and it was not just to have a cup of tea.

He was positive about the share buy-back announced by British Land but suggested it was not big enough to make much difference. British Land is currently on a big discount to NAV so it probably makes sense when I am generally opposed to market share buy-backs. The discount discourages me from selling the shares at present.

TR Property managed to achieve a Total NAV Return of 8.0% last year which was very similar to the previous year and ahead of their benchmark. The depreciation of sterling helped the valuation of their European holdings. The share price discount is currently 7.8% which is slightly below their average. The dividend grew by 26% last year due to strong revenue growth, and currently yields 3.0%.

Marcus was positive about the future because capital markets are still good for property with very cheap debt. There has been record bond issuance by property companies – fixed for longer and lower, which they are encouraging.

He is slightly worried about Brexit and our politicians – “not sure they could negotiate themselves out of a paper bag”.

There were about 70 shareholders present at the AGM at a new venue (Marriott Grosvenor on Park Lane) with defective air conditioning. Shareholder votes were overwhelming in support of all resolutions, except that Chairman Hugh Seaborn got 5.9% against on the proxy votes. Not clear why and did not get the opportunity to ask him about that.

In summary, a useful AGM for those interested in the property sector (which I hold to offset my go-go growth stocks as property tends to be relatively defensive in nature, with share prices more driven by asset values and rental yields).

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

Disclaimer: Read the About page before relying on any information in this post.