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Europe: The Good, the Bad and the Ugly

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The BREXIT conundrum is just such an issue.

Contrary to popular mythology, being a journalist and columnist is not easy or even glamorous. Sometimes you write about a difficult topic because it is within your field of interest and so, in a sense, you ‘have’ to write about it. The task gets complicated when you write about an issue that is very much a moving target, changing constantly. This is not a huge problem when an article is published as a daily news feature, but it can be a challenge when you write an analysis of an issue or crisis that has to stay accurate for a reasonable period of time. Posting it on this or any other web site increases the need for the material to remain current and relevant.

The BREXIT conundrum is just such an issue.

The current confusion began in June 2016 during the run-up to the referendum held in the United Kingdom.  A narrow majority of 51.9% of those who voted opted to leave the European Union.

What followed has been a very complex divorce proceeding.  In the past week alone, the British Parliament voted against Prime Minister Theresa May’s second attempt to get approval to separate from the European Union. Parliament also voted against holding a second referendum and decided in favor of asking the EU for an extension of the March 29 scheduled  breakup date.

(For those familiar with British Parliamentary proceedings, the events are all the more confusing since lawmakers there traditionally vote with their leaders, but in this case many members of Ms. May’s party did not follow her lead.)

At time of writing, British citizens and politicians, executives with business interests in the United Kingdom, European Union leaders, investors and others are waiting for the proverbial other shoe to drop.

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However, while we wait to see what happens next, some individuals have to make investment decisions. The unsettled situation, however, may provide some investment opportunities, according to Gavin Graham, media commentator, financial analyst and my co-author on two books about frontier markets. Graham says that since between 70-75% of the revenues and earnings of the FTSE100 stocks flow from exports and overseas operations, the current underperformance of the United Kingdom stock market means that it currently provides good investment value.

In fact, a discussion of BREXIT often calls into play a look at the FTSE100.

This index contains a broad cross-section of 100 blue-chip companies listed on the London Stock exchange. The list includes Astra Zeneca, Barclays Bank, Burberry, Lloyds Banking Group and Marks & Spencer. Its significance as a barometer of the LSE lies in the fact that these companies represent approximately 80% of the entire capitalization of the exchange, which owns and maintains the index. Its importance on the LSE can be seen as similar to that of the Dow Jones Industrial Average and the S&P 500.

At a price earnings ratio of 14.4 times and a dividend yield of 4.4%, the FTSE100   is selling at around half the valuation of the S&P500. Sectors such as oil and gas, pharmaceuticals, tobacco and consumer staples are all attractively valued compared to American and European equivalents, Graham explains.

If BREXIT is eventually approved in some form, the pound will undoubtedly appreciate on relief that a hard BREXIT has been avoided. Foreign investors in the United Kingdom will thus receive a currency boost to their holdings. As it is, the pound is already the best performing major currency this year as hopes rise that a deal will occur, Graham says.

That’s the good news.

For the bad news, some European sectors appear vulnerable due to the recessions in Italy and Germany. This will affect sectors that depend heavily on exports such as autos, chemicals and industrials. Meanwhile, European banks still have large exposure to Italian government debt, which is vulnerable to further populist moves by the new coalition government.

And while most hope that the BREXIT crisis will soon be resolved, there is an ugly possibility that it will drag on.

Disclosure: I do not hold any shares in any of the companies mentioned in this article and have no plans to purchase any of them.
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