THE prospect of Brexit has caused plenty of surprises since the referendum last year. The pound fell from around $1.45 to under $1.20 as the UK’s future role in world markets was suddenly thrown into doubt. But despite many predictions to the contrary, the FTSE initially fell and then rallied to hit record highs.
The announcement that Mrs May was triggering Article 50 was followed by another surprise – a snap general election.
What does this mean for your financial plans?
Why is Mrs May announcing an election?
By calling a general election the Prime Minister is attempting to build a strong negotiating position for Brexit talks. She hopes to increase the government’s majority, and gain a clear mandate from the country.
A Brexit boom
Brexiteers point to the FTSE’s performance as evidence of the enthusiasm from business and the country for leaving the EU. However, the real reasons may be rather more complicated and a little less positive.
Before the EU referendum, the pound was volatile. When the Brexit decision came through, its value slumped. Paradoxically, this slump was good for the fortunes of UK businesses who traded overseas. Any company generating earnings abroad received a big boost when they were converted into sterling.
One of the main drivers of UK investor returns in 2016 was the weak pound. It was not just equity investments that benefited. Any UK based fund or investment trust that invests overseas is exposed to exchange rate movements. Invest in American listed companies like Boeing, GM or Amazon, for example, and returns are delivered in dollars.
When those dollars are converted into pounds, the fund benefits from the favourable exchange rate for Sterling and earnings are in effect multiplied.
The reaction to the election news
So, a weak pound helps the FTSE rise. However, the reverse is also true, meaning that when the pound strengthens, overseas returns are dampened by being converted into a stronger currency.
News of the election had an immediate, and dramatic effect, reversing the falling pound and the rising FTSE.
The markets saw the election as a chance for Mrs May to achieve a stronger majority, reducing some of the uncertainty about the Brexit process that has been depressing Sterling’s value. Their immediate reaction was a six month high for the pound against the dollar, and a sudden 2.5% fall for the FTSE 100 index of blue chip stocks.
This in turn means that investors who saw currency gains from their global investments last year may see some of those profits wiped out.
Should you make UK investments?
It’s tempting to think that investing in the UK might mean avoiding this currency based volatility. However, when a company is listed in the UK, it does not mean that it earns its money at home.
Companies within the FTSE 100 index, which lists UK’s largest enterprises make nearly three quarters of their earnings overseas. Even the FTSE 250, traditionally the more domestically focused index, still sees companies listed derive half their earnings from exports and overseas business.
What should you do?
As an individual investor, it might not be possible or prudent to attempt to react to short-term currency movements, but you should be aware of exposure to longer term trends.
If you are a fund investor, you may be able to switch investments to funds invested in UK companies, which avoid exchange rate issues. This of course would leave you more exposed to the performance of the UK economy. It is true that the UK economy has performed better than pre-vote predictions suggested, but no one can be sure what the future holds.
Another way to reduce the effects of currency on your portfolio is to invest in hedged shares. These are offered by some funds and supported by complicated currency contracts to attempt to minimise the impact of exchange rates. They mean you receive returns as if you were investing in local currency. This could provide a useful hedge against loss if the pound strengthens further, but you could miss out on gains if it weakens again.
The position is complicated. The future of the UK and perhaps even the global economy may hinge on negotiations over the next two years. Your own best course of actions depends on your attitude to risk and your view of what the future might hold.
To discuss your investment portfolio, or any other aspect of your financial plans, call Darren Rowe or Viv Swift of Continuum on 01208 815411.
Darren and Viv have over 35 year experience in giving financial advice. They work across the whole spectrum of financial advice from funding the purchase of your home, saving for your retirement or protecting what matters most to you in life.