With the 2-year anniversary of Brexit upon us, it appears investors are no clearer on what the future holds for the UK and its relationship with the European Union.
But thankfully for investors there are areas of the UK market that continue to chug along at a steady pace regardless of how negotiations are progressing.
If we wind back the clocks to before the results of the Brexit referendum, EdenTree’s Ketan Patel picked five stocks that he said would “not just survive but thrive” regardless of the outcome.
What was unique about these stocks, he said, was that they were, for the most part, small- and mid-caps – where he believes there is more value than in their larger counterparts.
He also highlighted that they have had their management in place for a long time, something that is key for the manager.
Patel said that these companies were unique in their products and they had leading market-shares along with high barriers to entry.
He said: “The whole thesis was very much that there are plenty of quality UK small and mid-cap companies that will survive Brexit.”
One of the key themes Patel identified in these stocks is that they almost all have overseas earnings.
“Overseas earnings is a key bit because that’s the fastest growing market,” he said.
Indeed, global growth has been more than 1 percentage point higher than UK growth in the past two years.
GDP growth of the UK vs world
Source: IMF
He added that the UK is ultimately a small market. Indeed, the UK represents just over 2 per cent of global GDP, meaning that a larger opportunity set can be found in companies that operate mostly internationally.
One such stock that has overseas exposure is safety expert Halma, which operates in more than 20 countries around the world.
The stock has been in Patel’s EdenTree Amity UK fund since before he came on board in 2016. Co-manager Sue Round added the stock to the portfolio nearly 30 years ago.
Halma started out as a rubber company based in Ceylon (now Sri Lanka) and evolved through the years as an investment company specialising in engineering to its current role as a company that centres on hazard detection, life protection, personal and public health improvement and environmental protection.
Patel described the stock as “extraordinary” having grown from a small-cap holding at the time it was added, to being listed in the FTSE 100.
He said: “Sue bought it on the basis that she liked the health and safety argument because she thought that was going to be a huge thing in terms of regulation.”
Moving on, Patel said filtration company Porvair was a stock that could weather Brexit, although he noted that it is “quite dull”.
“Ultimately every plane in the world will have to have a filter fitted and does so,” he said. “It’s mission critical, so why would Boeing or Airbus not put that in?"
Patel said that Porvair is part of the supply chain and that the hard part is getting to that position but once you’re in the supply chain, you’re going to stay there. He said the significance of that is that you can then put up your margins when you want.
As with Halma, Porvair is another truly global company: “The thing about Porvair is that the majority of its earnings come outside of the UK – even though it’s a Southampton-based company,” he said.
“So, the argument that only large-cap companies can earn money from overseas is rubbish. Plenty of companies in the FTSE 250 and below earn money overseas.”
Four of the five companies in this article have done well since Brexit, as the below chart shows, but the best performer is the next on the list, Victrex.
Performance of stocks over 2yrs
Source: FE Analytics
Indeed, four of the five companies have produced superior returns to the FTSE All Share and the FTSE Small Cap indices over the past two years but Victrex has topped the chart with a return of 118.94 per cent.
The company, which gets 95 per cent of its earnings from abroad while its production is 100 per cent based in the UK, uses PEEK (polyetheretherketone), - a polymer that the company created in the 1970’s.
Patel said: “PEEK is great for your phone, it’s great for cars, it’s also great for your spine. Every time you have to have keyhole surgery, the stuff that they dig into is made out of PEEK.”
Victrex is listed on the FTSE 250 index but even if you go further down the market cap spectrum to the FTSE Small Cap index, you will find international companies, such as Trifast, which specialises in industrial fastenings, or “nuts and bolts”, according to Patel.
However, he said: “These are not nuts and bolts you and I can buy at a Screwfix or B&Q fundamentally. So, every time you sit in a car seat or a plane seat, these bolts hold you down.
“They don’t cost a lot but if they’re not in place, guess what, things will go wrong. Again, the quality is ultimately the key part.”
The EdenTree manager said Trifast is another good example of an international company. Indeed, the company has 31 locations across Europe, Asia and North America with global logistics capability to over 60 countries worldwide.
The only ‘Brexit-proof’ company Patel mentioned that operates solely in the UK is housing maintenance company Mears Group.
The UK currently has a housing crisis where there is a shortage of decent, affordable homes. With government initiatives to improve this, regardless of the Brexit vote, the company, which services and repairs social housing and apartment blocks across the country, should be in-line for an uptick in business.
Patel said: “Housing associations and local councils will use Mears. They are the only national provider of the service.
“So, if you’re living in a block of flats, in terms of internal and external repairs, and also if you’re living in a council house, things have to be changed or if you need a new kitchen or bathroom, they’re the only ones that can do it.”
He said that 100 per cent of the company’s earnings are guaranteed by the government.
To Patel, the fact that all of its earnings come from the UK was not an issue, because its “bulletproof” and would still be providing this service regardless of what happened with Brexit.
However, the stock is the only one of Patel’s five to have made a loss over the period, down 6.25 per cent.
Patel’s Amity UK fund, which he runs alongside EdenTree Amity Global Equity Fund for Charities and EdenTree UK Equity Growth, has underperformed its average IA UK All Companies peer and the FTSE All Share in the past two years, returning 23.77 per cent.
Performance of fund vs sector and benchmark over 2yrs
Source: FE Analytics
Halma is the only of the above-mentioned stocks that makes the fund’s top 10 holdings and at second place it constitutes over 3.5 per cent of the 103-strong portfolio.
For a fund to be included in the portfolio, it must first pass a negative screening ruling out those companies that earn money through tobacco, alcohol and gambling among other factors.
This is followed by a positive screening which looks to see if the company is actively making positive contributions such as corporate governance, environmental management, healthcare and human rights.
EdenTree Amity UK has a fund size of £150m and an ongoing charges figure of 0.79 per cent.