Schemes with heavy allocation to UK equities that have high EU exposure could see major changes to their risk profiles following a Brexit, according to research.
Old Mutual Asset Management's Brexit, an Analysis of Economic Exposure report reveals the telecoms, information technology and consumer sectors had the highest European exposure in 2015 with 37.3%, 22.4% and 21.9% respectively. This gives them the biggest potential exposure to an ‘out' vote in the forthcoming referendum on 23 June.
The report urged schemes with large exposure to these sectors - either directly or via UK, European or global funds - to assess whether the potential volatility in future revenues would alter the risk profile of their overall portfolio.
The firm's head of international business Olivier Lebleu said: "Pension funds ought to be aware that, were a small number of large companies to re-domicile as a result of an EU exit, either for trade purposes or to be nearer the markets from which they derive their revenues, portfolios and risk exposures have the potential to change significantly.
"Several of the largest companies with EU or ‘rest of world' earnings far outweighing their UK revenues, are major components of UK equity funds, index trackers and income funds and, in some cases, significant contributors to those funds' performance."
The report uses data from MSCI to demonstrate the extent to which UK plc relies on both the EU and the rest of the world for revenue as well as the likely impact of Brexit on different sectors and company sizes.
Some 17% of revenue of all UK listed companies derived from the EU in 2015 equivalent to £350bn, 32% or £650bn of revenue came from the UK, and just over half (51%) from the rest of the world.
The effect of Brexit on pension allocation to UK equities is unlikely to be neutral in the short to medium term, according to the paper. The international nature of UK equities which has been seen as indicative of the country's attractiveness for global businesses may be viewed very differently by UK investors if Britain leaves the EU.
The firm also found an inverse relationship between company size and domestic revenue.
If the country's gross domestic product weakens substantially during a post Brexit transition period the short-term impact on smaller capitalisation companies could be huge given their relative lower level of international diversification.
Over the longer term Brexit should favour more domestically oriented companies, which should stand to benefit from any renewed domestic economic strength. Also over the long term remaining in the EU should benefit larger companies because they tend to have more significant exposure to EU markets.
The study is a continuation of the Allocation Illusion report sponsored by Old Mutual and the Society of Pension Professionals (SPP) in 2015. It showed although default defined contribution funds had on average 41% exposure to UK listed companies as at March 2014, in reality those companies only had 14% economic exposure to the UK based on their revenue sources.
Most defined benefit (DB) schemes have de-risked away from equities in recent years and have also diversified away from the UK market. The equity share of total DB scheme assets fell from 35% to 33% in 2015 according to the Pension Protection Fund's latest purple book. The UK proportion of total equity holdings fell from 28.9% in 2014 to 25.6% in 2015, while the overseas share increased from 62.4% to 65.4%. Between 2008 and 2015, the UK-quoted share of total equity holdings fell from 48% to 25.6%, while the overseas equity share rose from 51.6% to 65.4%.
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