Active investment commentary & analysis

The impact of currency is often misunderstood

For three years, a strong Pound has not been at the top of investor concerns. Brexit and the parliamentary process hammered the currency, as international investors withdrew. But - if stability returns - the Pound could be set for a significant rebound. Little thought seems to be given to the possible impact. The impact of currency is often misunderstood, with its effect hard to disentangle from underlying trading and profits.

Already, the Pound has gained 10% from the summer lows – briefly dipping below $1.20. This volatility gave some export-led businesses a short-term boost. But company management rarely talk of windfalls, so the narrative is typically margin improvement or a demand pick-up. Few companies admit a tail-wind from currency if they can tell a story of better trading. This challenge in investment analysis plays to fundamental research and active management.

And others are simply unprepared for further strength in the Pound - it was nearer $1.50 ahead of the Brexit referendum. Domestic UK businesses and importers will get a boost. Meanwhile, the overseas earners that helped portfolios over the past three years would move out of favour. Businesses that have been growing strongly in the US could find it difficult to persuade investors that currency impact is translational rather than trading. Even moves of 5% or 10% in a currency can create disproportionate share price volatility when the effect is misunderstood.

The Brexit process still has pitfalls, but any dissipation of uncertainty could see foreign investors return. A pick-up in bid and merger activity could follow. There is much to unwind in the UK economy, if politics stops dominating the headlines.