Only 27% of the FTSE All Share Index’s revenues come from the UK. As a result, the UK stock market has one of the smallest home-country biases in terms of revenue out of all the major global markets because of the large number of international businesses with global operations that reside here.
How Badly Has Brexit Hurt UK Earners?
It’s hard to think of another event in recent memory that’s caused more uncertainty for UK businesses than Brexit.
Our revenue index, which weights UK companies based on where they earn their income rather than simply where they are listed, goes back only to August 1, 2014. Comparing the performance of both the revenue index and the Morningstar UK Large-Mid Index over that period, we saw our revenue index get off to a handsome start.
We attribute this to the clearing of some uncertainty following the decision that Scotland would remain a part of the UK following the closely contested independence referendum in September 2014. The revenue index also had a strong month of outperformance in May 2015 following the UK elections that saw David Cameron and his Conservative party achieve a majority, suggesting that investors at the time saw this as a sign of better things for the economy.
That period of stability was short-lived, however. The month-by-month performance differences between the two indexes in give a clearer sense of the volatility.
The standout negative month is June 2016, the month of the Brexit vote, during which the revenue index lost almost 9.50 percentage points more than the market-cap-weighted index. That’s a huge difference between two indexes that—despite their different weighting methodologies—share a 0.9 correlation, 98% similarity of holdings, and less than 50% active share. It also shows the value in understanding the revenue exposures of a portfolio in uncertain times.
At the risk of serious understatement, however, there is considerable uncertainty with respect to the path Brexit will take. Prime Minister Theresa May’s initial negotiated deal has come under heavy fire, having been pulled from a vote for fear of defeat. May herself has had to weather a no-confidence vote.
The possibility of either the UK crashing out of the EU without a deal or of a second Brexit referendum being put to the people in the absence of an acceptable deal seem increasingly likely.
One thing is certain, though: To date, the added risk created by this process has not been good for stocks that are more heavily reliant on UK revenues. Domestically oriented UK firms have significantly underperformed stocks with greater international revenue diversity.
Although this particular aspect of Brexit has been widely reported after the fact, investors may well have come into the vote unaware of their real exposures if they relied on traditional domicile-based classification. This highlights the importance of considering where companies earn their revenues when thinking about risk—the old system of domicile-based measures simply ignores too much information to be the way forward,
