Those who follow currency markets will be well aware that sterling has fallen by circa 20% against the dollar and euro. This is a sizeable reduction in the value of sterling and reflects the ongoing concerns about Brexit and the UK political system. At the same time, the UK stock market is not a million miles off its all-time high. But how can this be, the UK economy is under pressure, sterling has collapsed yet the stock market is relatively high?
Currency movements
Back in the 1980s there were times when sterling was trading at two dollars to the pound but today it is around $1.24 to the pound. This makes UK products and services much more attractive to overseas customers because rather than paying two dollars for every pound they are now paying just $1.24 for every pound. As a consequence, companies with international exposure may well have seen a significant rise in their order books even though we are in one of the most difficult economic and political situations of recent times.
Inflated profits
There are many huge conglomerates listed on the UK stock market with exposure across the world and in particular the US. Akin to overseas investors looking towards the UK, when converting dollar profits into pounds sterling many companies have seen a huge uplift. For example, back in the 1980s a profit of $1 million would have converted to around £500,000. At today’s exchange rate the same profit would convert to just over £806,000, an increase of 61.2% without any actual increase in US sales. Staggering!
Markets will turn again
Even though there is doom and gloom across the UK, and perhaps to a lesser extent in the US, markets will eventually recover and the UK moved to a sounder economic and political footing. At this point we would likely see an increase in the value of sterling against the likes of the euro and the dollar. As the economy improved this would attract more interest and create momentum. However, on the downside it could have a significant impact on overseas sales for UK companies as well as the actual translation of overseas profits into pounds sterling when reporting half year and full year figures.
Against this background it is difficult to know what kind of rating companies involved in this scenario should be valued at. Should these ratings take into account the probable eventual turnround in the value of sterling? Or remain focused on the short term?
More opportunities
Incidentally, those UK companies benefiting from the exchange rate may well have opportunities to raise funds on the back of “good profits”. While some may see this as opportunistic it does make perfect sense to raise funds, assuming they can be put to good use, when profits are rising and the share price is doing well.
Summary
It is tempting to suggest that this kind of scenario is a one-off, short lived and few and far between. However, it is now more than 10 years since the US mortgage crisis which led to the worldwide economic downturn. Interest rates across the globe are still near historic lows, austerity is still lingering and government budgets/national debt are still under pressure. So, what many would have expected to be a short-term downturn has become life for countries such as the UK – at least for now.