“Our business is ready for Brexit, even if British politicians are not,” remarked Hiscox CEO, Bronek Masojada, in the UK insurer’s Annual Report published at the end of February. While Westminster has descended further into chaos and Brexit has now been extended, thankfully our UK-based holdings appear relatively well prepared for whatever happens next.
Despite the growing political panic, SKAGEN remains company-focused to best understand the fundamental drivers that we expect to create long-term shareholder value. While Brexit, and the uncertainty it continues to create, are potential risk factors for UK-based companies or those with exposure to UK customers, we consider these in the same way as the numerous other ‘known unknowns’ faced by our holdings. This typically involves assessing the extent to which these risks can be controlled and minimised, and their aggregate threat to our portfolios.
Structural readiness
Across our funds, SKAGEN Global has the greatest exposure to UK-listed companies, with 13.0% of its assets invested across three holdings. Non-life insurers Hiscox (4.9%) and Beazley (4.8%) represent two of the fund’s three highest conviction ideas and – as you would expect from companies that analyse risk for a living – both are well placed to deal with any transition.
Hiscox is a global insurer that generates around 18% of its income in the UK and a further 12% from Western Europe. With 2018 premiums totalling $3.8 billion and pre-tax profits of $137 million, the relatively small $15 million spent to complete what Chairman Robert Childs describes in the Annual Report as its “structural readiness for Brexit”, looks like a sensible investment.
Beazley generates only 4% of premium income from the EU but appears to be equally well prepared, with CEO Andrew Horton commenting in its recent Annual Report that “although we are a UK-based business, Brexit should not present any insurmountable challenges for Beazley… I think we have done everything possible to mitigate the impact.” This includes planning for three different scenarios; a hard Brexit, a transitional arrangement or the UK remaining in the EU prior to Brexit, which is looking increasingly likely.
Both insurers have established European offices to continue underwriting policies from the EU and will use the recently opened Lloyd’s Brussels to insure European Economic Area risks that were previously placed with Lloyd’s of London. SKAGEN Global recently met their management teams and the portfolio managers believe that the long-term investment case for both companies remains attractive, regardless of any short-term market volatility.
The remainder of SKAGEN Global’s exposure to UK-listed companies comes from RELX, which is the fund’s seventh largest holding at 3.3% of the portfolio. The publishing group formerly known as Reed Elsevier generates around a quarter of its £7.5 billion revenues from Europe, including 7% from the UK. Chief Financial Officer, Nick Luff, said in a recent interview that he expects “few problems from Brexit” and the company, which is dual-listed in London and Amsterdam, last year opted to move its headquarters to the UK.
Business as usual
Our other fund with meaningful exposure to London-listed companies is SKAGEN Insight, which has 3.4% of its assets invested in Stock Spirits[1]. The alcoholic drinks producer’s UK revenue, however, is insignificant with 90% of sales coming from Poland, the Czech Republic and Italy[2]. Chairman David Maloney commented in its Annual Report that “the possible implications of Brexit on the Group will continue to be closely monitored but the likely effect is not considered to be material as we do not produce in or export from the UK.” The report includes a full risk assessment of the Brexit impact on trade, taxes, people, economic and financial factors, and concludes that the threat is insignificant. Although not part of our investment thesis, Stock Spirits could even benefit from currency gains if Brexit continues to put pressure on the Pound, given the company’s UK cost base and overseas revenues.
Relative to our holdings’ attractive upside potential, our portfolio managers are comfortable with the possible risks from Brexit, but will continue to monitor the UK’s situation and its impact on our companies as events unfold. A hard or disorderly Brexit is likely to impact all risk assets, including UK equities, and FTSE 100 constituents Hiscox and RELX could experience heightened volatility if passive investors decide to make their own exit. However, as well as not having to second-guess politicians to generate returns, a key advantage of bottom-up investing is that we will be ready to take advantage of potential company opportunities from any Brexit-induced market turbulence.
[1] As at 28 February 2019
[2] As at 30 September 2018
Notes:
SKAGEN portfolio information as at 19 March 2019 unless stated.
Holding company financial information as at 31 December 2018 unless stated.