Is the EU like a blackhole?

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15/04/2019
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The scientific community was abuzz last week with the very first photograph of a supermassive black hole. Prior to this, black holes were only a scientific theory, despite there being plenty of scientific data to support their existence. After reading about this latest discovery, it struck us that there were some definite similarities between black holes and Britain’s planned withdrawal from the EU.

For those who are not familiar with supermassive black holes, they are stars that have collapsed in on themselves creating a gravitational singularity. It seems that the UK is currently stuck within the EU’s very own event horizon, known as such because no matter what events are occurring within the proximity of the blackhole the gravity experienced is so immense that it isn’t possible to escape from the jaws of its gravitational pull. Similarly, there are those that also think that no matter what events transpire we will never be able to separate ourselves from the EU.

The normal rules of spacetime do not exist within the proximity of a blackhole, such that 24 hours in close proximity can represent many years on earth. This phenomenon is known as gravitational time dilation and is probably a feeling many Leave Brexit voters have experienced since voting.  Whilst they believed it would be a short period between voting and leaving the EU, our withdrawal has been extended again and again - now until October 2019. Despite the vote happening almost 3 years ago we are seemingly none the wiser on what our exit from the EU will precisely look like.

Fundamentally there is a fracture within politics; a fracture between the public and our very own MPs. According to the Press Association, prior to the EU referendum in June 2016, 480 MPs declared their support for Remain, whilst only 159 said they would vote to leave the EU.

Both Anna Soubry and Sarah Wollaston; two of the Tory MPs who quit to join the newly formed Independent Group are ardent remain supporters.  This is despite their constituents voting firmly for leaving the EU. In Broxtowe, the constituency for Anna Soubry they voted to leave: 52.5% against 47.5% to remain. And in the constituency for Sarah Wollaston, they also voted to leave: 53.9% against 46.1% to remain.

We can take this even further; the EU referendum was not fought by constituency, it was fought in 382 voting areas.  However, we have obtained the estimates provided by the House of Commons Library.  Out of the 650 constituencies, it is estimated that 403 voted to leave the EU.  So, 67% of MPs are in fact representing constituencies that voted to leave.

Therefore, a general election will not solve this crisis, it would only deepen the existing divisions.  Many MPs on every side of the house are supportive of staying within the EU. Of course, polling is pure speculation, but the Tories seem to be haemorrhaging votes by the dozen if the polls are to be believed.  This is in part because, so far, they have failed to deliver Brexit.  It is unlikely that any party would have an overall majority, and a hung parliament would do little to offer any resolution.  It is also hard to see this crisis being solved by replacing Theresa May, however, it would be pleasing to certain segments within the Tory party.

Where we go from here is anyone’s guess and thinking about that can be scary. Regarding the aforementioned black hole, we can be safe in the knowledge that it is 55 million light years away, at this rate this could also be the amount of time it takes the UK to leave the EU!

Now, a word on Debenhams.  Nobody was surprised when Debenhams fell into administration last week. The plight of the high-street chain has been well documented in the press, and the excuses from management always remain the same; it was a challenging environment is always a popular one, in an obvious dig at online retailers. Of course, shopping habits have changed but companies do need to adapt otherwise they will be consigned to the history books. This is not to say they are wrong when facing the challenges of online retailers.

High street shops are seemingly penalised while their online competitors face lower overheads; one such example of this is the business rates they pay. Business rates are based on the rental value for the store, so high streets and city centres, which have large footfalls, can expect to pay the most in business rates, whereas internet giants can setup their distribution centres in derelict and deprived areas, thus attracting the lowest business rates whilst also keeping wages low.

Furthermore, many internet giants can domicile themselves in jurisdictions which will allow them to pay the lowest rates of tax. Many UK retailers do not have this option, so are placed at an unfair disadvantage.  Higher costs coupled with higher taxation means you must charge more for a product than your online competitor.

Nevertheless, this is not to say that the end of the high-street is nigh - there are other retailers that have adapted to the online challenge.  Different industries are always facing a multitude of different challenges.  Many retailers have adapted successfully, and in fact, looking at the FTSE All Share General Retailers index (Source FE Analytics), it has only marginally underperformed the FTSE All-Share.  Over ten years it has returned 123% compared to the All-Share that has returned 186%:

 

FTSE All SDhare TR in GB v. FTSE All Share General Retailers TR in GB Graph - May 2019

Of course, the FTSE All Share General Retailers index doesn’t consider the whole high-street, but equally its performance has been dragged down by constituents suffering share price falls.  Therefore, given its relatively strong performance there are obviously retailers that have managed to adapt.

Debenhams’s problem was they were unable to adapt due to their large debt pile. So, the company fell into the hands of its creditors wiping out ordinary shareholders. Their administrators have confirmed stores will continue to operate whilst restructuring takes place.

Finally, we can’t help but mention one of the greatest sporting comebacks that occurred over the weekend. Tiger Woods won the Masters on Sunday, which is over a decade since his last major triumph on the golf course. This is a remarkable recovery given the injuries he has had to overcome as well as his well-documented personal problems.  Many had written him off, but the lesson we can apply here in our industry is that even after a prolonged period of underperformance you can’t write off anyone with such a profound track record.  Often fund managers are written off after short periods of poor performance, but due consideration must be given to their history. Of course, past performance is no indication of future performance and for some, their luckiest years are behind them. Any keen golfer would know that Sunday’s performance was anything but luck.

Source: FTSE International Limited ("FTSE") © FTSE 2019. "FTSE ®" is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under licence. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE's express written consent.

 

Equities tread water as EU grants Brexit extension

Domestic equities held firm last week as the European Union granted the UK a 6-month Brexit deadline extension. It’s the second time that the leave date has been pushed back due to the inability of Parliament to agree on what the initial withdrawal phase should look like. The flexible extension allows the UK to leave earlier if a deal can be agreed which seems unlikely given the impasse that has gripped Westminster over the last few months. The FTSE100 declined by a modest -0.1% with the more domestic focussed FTSE250 +0.9% higher.

Elsewhere, Q1’19 earnings season kicked off in the US with the S&P500 rising by +0.5%; the Banking sector enjoyed a positive week, thanks largely to an encouraging set of results from JP Morgan. In the Eurozone, the German DAX30 was flat for the week with the French CAC40 +0.5% higher. Italian equities also ticked higher despite the government conceding that economic growth would be lower than expected this year. Meanwhile in Japan, the Nikkei 225 rose by a steady +0.3%.

Bond yields continued to rise on both sides of the Atlantic with 10-year gilt yields 9 basis points (bps) higher and the treasury equivalent yield 6bps higher at 1.21% and 2.56% respectively. Interestingly, Greek 10-year yields are now trading close to 14-year lows with the Greek Government set to repay a tranche of outstanding debt to the IMF. The early repayment is another sign of how far the country has come since the depths of its debt crisis.

Sterling enjoyed a strong week against the Dollar following the Brexit extension announcement, rising by 0.7% to $1.310 whilst against the Euro, the domestic currency was modestly lower at €1.158. The Euro also rallied against the Dollar, rising by +0.8% to €1.131.

Finally, in the commodity markets, oil maintained its upwards trajectory with a +1.7% weekly increase; at the close of play on Friday, Brent crude was trading at $71.55 a barrel. Gold was unchanged with the precious metal concluding the week at $1292 an ounce.

Data sources - Datastream and Forex Factory - Accessed 15.04.19

Source: FTSE International Limited ("FTSE") © FTSE 2019. "FTSE ®" is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under licence. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE's express written consent.

 

The week ahead

It’s a busy week for domestic macro data, the most notable being that of inflation and unemployment. The former is expected to have risen by 10bps to 2.0%, in line with the Bank of England’s target whilst the latter is forecast to have remained unchanged at 3.9%. Wage growth is expected to have improved further with annual rate forecast to have reached +3.5% which if proven accurate, will be the fastest pace of growth since 2010.

In the US, retail sales are also due on Thursday whilst the housing sector sees a series of key figures released on Friday, including Building Permits and Housing Starts (both covering March). The standout data in the Eurozone arrives on Thursday with the flash PMI readings covering the first few weeks of April. Recent production data has deteriorated sharply, with the manufacturing sector particularly hard hit due to a major slowdown in the sector in Germany.

Elsewhere, it’s a busy week in China as it releases economic growth data on Wednesday. The data which covers Q1’19, is forecast to show a modest slowdown in the headline annualised rate to +6.3%. Other notable data from the world’s second largest economy include fixed asset investment, industrial production and retail sales. Headline Japanese data is limited on this occasion.

Data sources - Datastream and Forex Factory - Accessed 15.04.19