What’s the impact of a Brexit on S&P 500 earnings?
Vote for “Brexit” Impact on S&P 500 Earnings
The surprise vote by Britains to exit the European Union has rocked the global markets with European markets selling off between down -7% in Germany to down -12% in Spain. What does this mean for Global Equities and our client portfolios?
Short-Term Impact—Would there be a hit to S&P 500 earnings per share?
According to Factset Research, the aggregate revenue exposure of the S&P 500 companies to the UK is about 2.9% and is broken down as shown in the graph below. The higher sector level exposures are for Energy (6.4%), Information Technology (4.0%), and Materials (3.7%).
At the company level, 30 S&P 500 companies have revenue exposure of over 10% to the United Kingdom, led by Newmont Mining (64%), Molson Coors Brewing (34%), and, believe it or not, PPL Corporation at 31%. Overall, the short-term impact of a vote to leave the European Union should have minimal impact on S&P 500 earnings.
Valuation: The S&P 500 Index had risen about 3.5% over the past week ahead of an expected remain vote. The run-up into the vote was based more on the removal of uncertainty surrounding Britain leaving the EU because no one really knows what the long-term ramifications will be. Short term, we expect an overreaction in U.S. markets as there will be little to no impact on quarterly earnings per share.
European Markets: Europe’s markets surged over 7% in the past week ahead of the Brexit vote on sentiment that a remain vote would prevail. This was a huge move, and today’s sell-off is already reversing any of those gains. As far as short-term impact, the most obvious impact will be to Britains, where their GDP will likely decline by over 1%.
Britain will have to enact Article 50 of thee Treaty of Lisbon which will allow them to start the two year clock ticking on the workout and negotiations with EU on new trade deals, likely reverting to the World Trade Organizations (WTO) trade pact. There will be areas that benefit, such as certain fishing industries, but for banking and finance and other industries, this will no doubt be a negative to Britain’s economy over the near term. This referendum vote was more about maintaining a feeling of sovereignty and controlling immigration than looking at the real economics of an exit.
As for the rest of Europe, we believe the market reaction today is more about the long term and what this means for not just the European Union, which includes members such as Britain that are not members of the currency block, but more about the 17 Eurozone members who remain in the currency block and the political environment in France and Italy, where leaders such as Marine Le Pen have been gaining strength—and these parties and politicians also want to leave the EU.
- We believe there is not a lot of uncertainty on the impact of U.S. earnings over the short term and the next few quarters here in the U.S. and most of Europe.
- Liquidity in the Eurozone could become an issue and Mario Draghi has been ready to step in. We should likely see a statement from him today on his response to the markets. Over the short term, the main concern will be liquidity and confidence.
- Valuations: We believe any sell-off of over 5% here in the U.S. would be a buying opportunity. For European equities, the reality is that a remain vote would not have changed anything about Europe’s economy—both the good and the bad–and there are pockets of good. So we expect European markets at a minimum to give back all of last week’s profits, and then some.
Recessions are often preceded by an event, and the global economy is weak and growing at barely 3%. While we expect no immediate impact on earnings here in the U.S., the Brexit could rock consumer confidence in the EU and in the absence of a powerful reponse from the European Central Bank, we could see the global economy tip into recession.
Minimal impact on U.S. earnings, and look for any big down moves as a buying opportunity. For European equities, we would look to moves beyond -15% on the downside as a buying opportunity for European stocks, depending on the policy response from Mario Draghi.
There is an enormous amount of uncertainty at the present, and no one really knows exactly what the impact will be on the global economy, hence the uncertainty and big market moves. For now investors simply do not know where the chips will fall with expected earnings, which is what really matters to valuations. At times like these, markets tend to overshoot to the upside and downside, and for balanced, diversified investors, moves like these often create opportunities in some sectors that have been oversold as markets overeact to the unkown.