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Brexit Aftermath

Brexit Aftermath

In a previous post, I outlined our thinking in respect of positioning the portfolio ahead of Brexit, particularly in regards to Henderson Group (ASX: HGG), which is the most direct exposure we have to the UK.

With the result of the vote now in, and the position having gone against us, it is timely to reflect on the original decision, and to determine what, if anything, could have been done better, and where to from here.

When we did our previous analysis, we constructed a probability tree that mapped out alternative scenarios for the vote, and alternative scenarios for market conditions in Europe, with an ‘exit’ vote increasing the likelihood of difficult times ahead for the UK and Europe. We assigned probabilities to the different scenarios and calculated a probability weighted average, which by our numbers showed a value for Henderson neatly above the prevailing share price.

Post the vote, the HGG share price has suffered a painful share price decline. However, we knew this was likely in the event of exit, and the current trading price is in line with what we anticipated for that scenario, so our analysis was on the mark in that respect.  Recognising this possibility, we kept our position sizes small to limit the downside, and so the outcome will not leave much of a mark on the Fund’s track record.

Importantly, while we anticipated that price could decline by this amount, we did not – and still don’t – think that the impact to underlying value is as great.

With the benefit of hindsight, our view on the ‘exit’ scenario is not much different to what it was before the vote.  The only thing that has changed is that this scenario is now the reality, where previously we had judged that a ‘remain’ outcome was more likely.

Our assessment of the likelihood of ‘remain’ was based on a range of data points, including final opinion polls, betting odds and estimates provided by experts, all of which pointed in the same direction. One astute reader, Mishkel, highlighted a concern with the veracity of betting odds in this instance, but even taking that into account we assessed ‘remain’ as the more likely outcome.  It is the nature of probability that unlikely outcomes do sometimes arise, so we can’t tell if our estimate of the probabilities was faulty.  If a roll of the die throws up a ‘6’, that doesn’t mean it was reasonable to expect a ‘6’ before the event.

So with the benefit of hindsight, our analysis looks like it was sound, even if the result went against us.  If we approach similar problems the same way over a long stretch of time, we will certainly have some go against us, but it is reasonable to expect that we should win more than we lose.

The challenge now is to determine what has happened to the value of HGG, and where it now sits relative to the share price. This is by no means easy, but our assessment is that the share price now factors in a very dire scenario in terms of FUM flows and market returns.  While the vote has certainly impacted on these things, it does not appear to us that the impact is as dire as implied in the current share price.  Accordingly, we view the current share price as a potential long term opportunity.

There is more water to flow under the bridge before we have clarity on the path forward for the UK and Europe, but at this stage we see more upside than downside, and have added slightly to our holdings.

Tim Kelley is Montgomery’s Head of Research and the Portfolio Manager of The Montgomery Fund. To invest with Montgomery domestically and globally, find out more.

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Tim joined Montgomery in July 2012 and is a senior member of the investment team. Prior to this, Tim was an Executive Director in the corporate advisory division of Gresham Partners, where he worked for 17 years. Tim focuses on quant investing and market-neutral strategies.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.

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#Brexit, #Henderson Group (HGG)

6 Comments

  1. Hi Tim, the question isn’t whether your analysis was sound just before the Brexit vote (I believe it was sound). The question is whether your analysis was sound in December 2015 when HGG was a top 10 holding in the Montgomery Fund.
    Kelvin

  2. Re the betting odds on Brexit – I read an article in Zero Hedge the night before on the strange betting – there were many more bets for exit (small sums of 50 or 100 pounds) while few bets to remain of very large size $$ in the tens of thousands of pounds – hence the odds on the night of about 8 to 1 against leaving. Based on that article I punted a bet to leave of $200 figuring the sentiment of punters favoured leave while the big money skewed the apparent odds – happy result – but shows how betting odds can be deceiving.

  3. Hi Tim
    What did you see as the price upside for HGG had ‘Remain’ won the vote? You say you expected 30% downside for ‘Leave’ winning, so to justify holding the position over the vote you must have seen huge day1 upside in the HGG price? 10% perhaps, given the odds? Surely ‘Remain’ was already priced in and so it was an asymmetrical bet?

    • Hi Rory. Our analysis suggested quite a bit of ‘exit’ was priced in. We suspected that this happened in the early part of 2016 when the share price fell much further than the UK market.

  4. Hi Tim,
    How do you feel about the impact the Brexit will have on BT Investment with their stake in J O Hambro?

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