As the Brexit drama rolls on, we’re beginning to get a clearer view of what the impact on financial markets is. The main point to note is the weakness of sterling: the pound has fallen by around 10%, and looks like it will remain at this lower level for some time to come.
That has driven the FTSE 100 up to 6,700, as UK stocks are now cheaper for overseas buyers. And it’s also good news for exporters, as companies can now sell their products more cheaply abroad.
Amongst the firms that are set to do well are aerospace and defence, and I’ll examine two of Britain’s leading lights in this article.
BAE Systems
Traditionally, the main markets that BAE Systems (LSE:BA) have served have been developed countries such as the UK and the US. But this company has had to adapt to a rapidly changing world where power has been shifting from the developed world to emerging markets.
While Britain and America have been slashing their defence budgets, spending is increasing in countries such as China, India and Saudi Arabia.
BAE Systems is adapting to this new world, focusing much of its research work in future-oriented warfare such as drones and sophisticated computer technology. And the fact that profitability is rising shows that this strategy is working.
A trailing P/E ratio of 17.5, and a current dividend yield of 3.8% indicate that this stock is worth closer examination.
Rolls-Royce
Rolls-Royce (LSE:RR) is, in my eyes, pretty much where BAE Systems was about three years ago. This was a highly-profitable concern that has suddenly stopped generating cash largely because it had taken big bets on expanding its oil and gas and defence businesses that were going sour as commodities markets slumped.
This company needs to return to its core strength of civilian aircraft engines, and should aim to push ahead in emerging markets. If it can do this, then I’m hopeful the firm will see a return to profitability in the next few years.
Rolls-Royce’s fall from grace has been stark. Earnings per share of 69.4p in 2013 tumbled to just 4.4p in 2015. The share price has almost halved, going from 1,250p to the current 746p.
But I still view Rolls-Royce as one of Britain’s most innovative and hi-tech businesses, and I think this stock should interest canny contrarians who can see that the company has strong long-term prospects. I expect there to be a substantial amount of cost-cutting and refocusing over the next few years at Rolls. But the company that will emerge from this could be stronger and more profitable.
BAE Systems’ EPS went from 5.2p in 2013 to 28.9p in 2015. It’s difficult to predict the future, and there are still many pitfalls ahead, but investors will be hoping Rolls-Royce can engineer a similar turnaround.
