BREXIT IMPLICATIONS DOWNUNDER – Australia
The wake of the UK’s decision to depart from the European Union has rippled through financial markets
globally. The immediate moves in the local equity, bond and currency markets have not been dissimilar to
those offshore moves. We expect markets to take some time to settle as market adjustments could continuen to reverberate locally. While a larger correction in equity markets a risk in the near term, the Australian market would seem reasonably positioned to recover from that over time.
We believe that direct trade, investment and earnings consequences for Australia of Brexit likely being
relatively modest for most ASX companies. That said, there are a number of companies that have direct
exposures to Brexit, which include UK companies that are listed on the ASX (such as CYB and HGG), followed by large Australian companies with global businesses. The sectors that appear most at risk are financials, industrials and consumer stocks that either have revenues derived from Europe or have a high growth exposure to the region. This is because there is potential for weaker UK and European GDP growth, and the political uncertainty.
Key Australian stocks with Brexit Exposure
The immediate moves in the local equity, bond and currency markets have been similar to those moves experienced globally. However as the dust settles we expect the impact on both the Australian economy and the ASX to be fairly minor and limited number of sectors and company. The ASX’s revenue exposure to UK and Developed Europe is fairly minimal at 1.8% and 2.0%, respectively. Although, large Australian ASX listed companies that either source part of their revenues from the Europe or have growth
exposure to the Eurozone are likely to be the worst effected. Banks and fund managers
are also likely to come under pressure as funding and investment markets experience
short term panic.
Summary Table of Initial Market Moves
Illustrated in the graphic below, diversified financials, healthcare and insurance have
the largest direct revenue exposure to Europe and therefore are most at risk of
revisions in growth and currency moves in the AUDGBP exchange rate.
From a trade perspective, Australia has limited exposure with total merchandise
exports to UK being 2.5% and Euro Area 3.5%, and total imports being 3% (UK) and 13%
(Euro Area). The domestic economy has continued to grow moderately but reduced
company earnings and reasonably high equity valuations by historical standards is
likely to cause some short term disruptions. On the upside, trade focus for Australia
has become much more focused on emerging markets and Asia of recent years and
therefore Australia will be insulated to some degree to the fallout.
Below we focus in on the effect of the Brexit on key Australian stocks:
Westfield -WFD
Westfield Corporation is a global retail property group with interests in shopping
centres in the US, the UK and Europe. It is engaged in the ownership, development,
design, construction, asset management, leasing and marketing activities with respect
its retail focused property portfolio.
Exposure:
The United Kingdom makes up approximately 25% to 30% of WFD’s business. This
exposure is currently concentrated in two large shopping centres in London (Westfield
London and Westfield Stratford). Overall, we see GBP weakness as the major near- term negative for WFD. Longer-term, a sustained retail slowdown could weigh on rents and development returns. The risk of a fundamental correction in UK property, and/or higher cost of capital for WFD and peers, also appear to have increased.
Approximately 25% of Westfield’s business is in the UK, and exposed to movements in the Pound. The stock reports in USD, and trades in AUD – so movements in GBPUSD matter for reported earnings, and movements in GBPAUD ultimately matter for valuation.
QBE Insurance Group – QBE
QBE Insurance Group is an Australia’s largest global insurer, engaged in underwriting
general insurance and reinsurance risks, management of Lloyd’s syndicates and
investment management. Its European operations predominately writes general
insurance business in the United Kingdom and throughout mainland Europe.
Exposure:
QBE European Operations accounted for about 29% of its FY15 group profits and a little
over 40% of its FY15 group insurance profit. The fall in the GBP will reduce the value of
premiums written when translated into QBE’s reporting currency of USD. It is estimated that 14% of QBE’s revenues are sourced from the UK and 12% for wider Europe.
The global market moves on QBE’s investment portfolio are estimated to have a
US$197m post-tax headwind from lower risk free rates and a US$47m headwind from
widening credit spreads. This is partially offset by a US$122m positive asset revaluation
and US$39m benefit from appreciation in property trust investments.
The financial market volatility emerging from Brexit is also likely to impact its group
2016 results via marking investments to (a lower) market value and reducing the
discount rate on its claims liabilities globally (increasing the value of these liabilities.
Macquarie Group Limited – MQG
Macquarie Group is a global provider of banking, financial, advisory, investment and
funds management services. Its strategy focuses on offering a full service investment
banking operation in Australia.
Exposure:
MQG sources 24% of its revenue and has ~1,500 staff located across Europe, Middle
East and Africa. In the UK, MQG has capital markets operations as well as direct
investments through the Asset Management division. The Brexit vote is likely to
significantly reduce the revenue opportunities in this market, as trading conditions
become more difficult and asset prices fall. However, the size and nature of the UK
direct business is unlikely to have a material impact at the Group level.
4 of the 6 MQG operating divisions are likely to encounter less favourable trading
conditions in 2017as a result of increase financial volatility and falling asset prices. A
tightening in credit markets would further impact on MQG’s business and earnings.
Treasury Wine Estates – TWE
Treasury Wine Estates Limited is a wine manufacturer and distributor catering to both
the premium and commercial segments of the market. The Company’s principal
activities are grape growing and sourcing; wine production and packaging, and wine
marketing and distribution. It operates in a number of geographical locations including
Australia and New Zealand; Europe, Middle East and Africa; Americas, and Asia.
Exposure:
Treasury Wine Estates currently generates around 10% of total company revenues are
sourced from the UK and adverse currency moves could result in lower profits when
translated back to AUD’s. As a result, the company may struggle to meet its 2017 and
2018 forecasts.
TWE recently acquired Diageo Wines and as a result added GBP90m of exposure to its
wine portfolio from wine that is produced in California and shipped to the UK. TWE’s
existing Australian wine exports to the UK are also estimated at GBP90m. So in total
the business is likely to have up GBP180m in GBP FX exposure (assuming no hedging).
The problem lies in the fact that TWE’s UK business derives revenue in GBP but the
wine manufacturing cost base is USD and AUD and hence the business has FX exposure
via Diageo’s.
Treasury Wines seems likely to face a slower demand backdrop in the UK and its brand
share will depend on relative exchange rate movements between the GBP, the EUR.
Volume and pricing may be constrained as the UK economy potentially slows down.
Sydney Airports – SYD
SYD owns and operates Sydney Airport which is the 11th largest airport in the Asia
Pacific region and 31st in the world by passenger numbers. The majority of revenuceis
generated from the aviation side of the business (49%), with the balance consisitng of
retail (22%), carparking/transport (12%) and property (17%).
Exposure:
Sydney airports has direct exposure to international passenger numbers. An increase
in the AUDGBP and AUDEUR exchange rates are likely to deter some visitors from
travelling to Australia. However, as shown in the graphics below the impact is likely to
be fairly small given the make-up of international passengers to Australia. The UK are
only the 4th largest source of visitors to Australia at 9% of total visitors. Meanwhile
European countries only contribute around 8%. The majority of Australia international
visitors are now sourced from Asia, NZ and the US and therefore, believe that SYD
will be to a degree insulated from European currency moves.
Additionally, because of the negative sentiment and risk off environment the Brexit has
resulted in a fall in the AUDUSD exchange rate. This is likely to induce visitors from
other countries outside of Europe instead (such as China and the US).
International Visitors to Australia by Region
Accordingly, while we may see some decline from European based travellers, we may
see a pick up from other regions instead.
Mining – BHP Billiton & Rio Tinto
Australian mining companies have no significant operational exposure to Britain,
although both BHP and RIO have corporate offices in the UK.
We estimate that BHP sources only 1% of revenues from the UK and 5% from Europe.
These are likely to experience little change from the Brexit.
On the negative side, the increased global risk is likely to driving commodity price
volatility and potentially a slowdown in global growth. This would be detrimental to
commodity prices. Central Bank easing globally (particularly China) would be seen as a
positive and would help offset slowdowns in growth.
With the British pound depreciating this is likely to drive a widening of the spread
between the Australian and UK listed lines of BHP and RIO.
