Jensen Investments on Brexit: The British Are Leaving! The British Are Leaving!
While the famous cry during the American Revolution attributed to Paul Revere may ring true in reverse, it’s probably worth taking a breath and a step back now that the United Kingdom has voted to leave the European Union. Global markets are reacting with impactful volatility and currency trading is just as active in the immediate aftermath of the Brexit vote. Political ramifications are already under way as British Prime Minister David Cameron announced he will resign and a new leader will be in place by October at the latest.
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At Jensen Investment Management we have always been primarily focused on the long term, investing in individual companies we deem to be of high quality as evidenced by strong and essential business characteristics. The vast majority of our decision making is driven by bottoms up fundamental business analysis. Considerations of macroeconomic events generally are not part of the process but we do monitor them to the extent they relate to the performance of the Jensen Quality Growth Strategy relative to broader market indices.
Given this backdrop, we believe it would be unwise to try to draw deep conclusions as a result of the vote in the UK. Nonetheless, we do believe that this is more of a political event that will likely increase volatility in the markets for the foreseeable future while less of an economic event that could truly dampen global business prospects.
Most estimates show that the UK represents just 3 – 3.5% of global Gross Domestic Product (GDP). While approximately 14% of the UK’s economy is accounted for through exports to Europe, we do not believe either of these data points is material enough to be damaged by the recent vote. Additionally, it has been widely reported that it’s a two-year process to leave the European Union so there is still much to be decided and negotiated before any real implications are known and understood.
For the US economy, the impact shouldn’t be material either as the UK accounts for only 4% of US exports. Thus any change in the UK economy as a result of the vote to leave would likely not meaningfully change company outlooks. More interesting is the potential impact within Europe itself as we have witnessed periods of great concern in the past over sovereign debt issues. Yet the global economic impact from such concerns has been relatively minor.
Indeed, our outlook for the companies in our Quality Growth Strategy continues to reflect our view that despite the uncertainty that remains regarding the direction and timing of interest rates, global GDP growth and corporate earnings, these companies are positioned to do relatively well given their competitive strengths and deep cash flow generation. Short-term market movements will give us an opportunity to consider whether the valuations on these companies are becoming more attractive. This likely will be the biggest impact of the UK vote in the coming months – market volatility.
At Jensen, we prefer to focus on those companies which we believe can produce strong underlying business results for the remainder of 2016 and beyond and use short-term volatility to take advantage of pricing disconnects in the stocks of these businesses. We believe that companies with strong fundamentals, durable competitive advantages, and a history of growing free cash flow will have a greater ability to chart their own paths, and that these companies should outperform lower-quality businesses over time.
Whatever happens in the aftermath of the United Kingdom vote to leave the European Union, we believe that paying attention to these important company fundamentals helps us manage risk, provide a measure of capital protection in volatile markets, and the opportunity for long-term capital appreciation.