Strong pound dents FTSE 100 profits

Between April and June this year,63 quoted UK companies issued profit warnings, the highest rate in three years, says Ben Marlow in The Sunday Telegraph. One big factor has been the strength of sterling, which has hit sales and earnings at companies ranging from Burberry and British American Tobacco to BAE Systems and Rolls-Royce.

In the past year the pound has gained around 12% on the dollar and 9% against the euro. This can dent corporate results, because firms take a hit when they translate their profits made into dollars, or euros back into a strong pound, as these other currencies now buy fewer pounds.

The US and the eurozone are Britain's main trading partners, but sterling has also made big gains against the Swiss franc, Japanese yen and Australian dollar in recent years.

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Goldman Sachs notes that the trend is especially bad news for the FTSE 100 index, which makes 80% of its sales overseas. For the FTSE 250 mid-cap index, the figure is just 50%. Profit forecasts for UK stocks have been trimmed by 10% in recent months, due to sterling. This explains why the FTSE 100 has risen more slowly than its major peers this year.

But don't worry too much. As Martin Waller notes in The Times, the drag from sterling will eventually unwind. Currencies change direction frequently the pound's upswing against the dollar already seems to be weakening.

And a poor earnings result in one quarter makes it easier to post a strong improvement a year on, because the performance starts from a low base. At some stage, the currency headwind will turn into a tailwind.