The Market Impact of the Brexit Vote

By now you probably would’ve heard that, in a very heated referendum, voters in Britain have decided that the country should exit the European Union. Obviously, there are going to be some immediate and longer-term impacts in the global markets.  More importantly, you’re probably more concerned about how that affects your portfolio now and in the future.

brexit2I felt compelled to write this morning to let you know that I’m following this development very closely and communicating with strategists on your behalf.  I think it’s important to remind ourselves that we are not traders; we’re long-term investors.  The markets will go up and the markets will go down. Finding the opportunities within this scenario is one of the core mandates of professional investment management. In a well diversified portfolio, just like yours, there are asset classes that are not necessarily correlated. Some will go down while others will go up; that is the time proven methodology known as “modern portfolio theory.”  As you read on, remember that I remain an unemotional and watchful guardian of your hard-earned portfolio.

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Nearly every market move over the last two weeks has been in some way attributed to this British referendum vote on whether the UK should remain with or leave the European Union.  If a poll showed that the Brits might want to leave, down go stocks.  Then it looked like the UK would stay, as recent as yesterday, and the Dow goes up 200 points. So, it’s no wonder that this vote in favor of leaving is cause the market to react badly.  Risk assets around the world are having one of their worst days in a long time, as Brexit reactions ripple across global markets.  Predictably, the return of uncertainty has brought with it a return of volatility.   How long this uncertainty lasts is a matter for debate.

 

What Are the Immediate and Longer-Term Implications of the Vote?

  • A close vote was anticipated because of the recent polling and had contributed to investor uncertainty and some market volatility. Nonetheless the vote to exit will be met with surprise by markets. Short-term falls in risk assets are to be expected as markets digest the implications of the vote.
  • Depending how you measure, the EU ranges from being the first to the third largest economy in the world. And in terms of trade, the EU easily topped the US and China in both imports and exports. So the warrior here is that in the EU slowdown would mean a global slowdown.
  • One of the concerns is over the potential for Britain’s economy to be injured by this vote. This obviously would affect their trading partners, predominately India and China, backspace. It could also create a great deal of regulatory and political problems that could harm the economies of everyone involved.  In addition, the UK’s treasury it self-reported that productivity and GDP would be lower, and that the nation would be “permanently poor” if it left the EU.
  • The Treaty of LisbonOver the longer term, something known as the Lisbon treaty, gives the UK between 24 and 36 months to leave the EU. Even if this was triggered immediately, we could see a very long. Of political and trade negotiations. So I think uncertainty will continue to affect the markets over the medium-term. 
  • While the vote to leave has immediate market implications, over the long term, people are questioning what impact this vote has in other countries – both in Europe, the US, and Russia.  It will be important for the EU to find some balance in exiting as quickly as possible to discourage similar movements in other countries.  The general thinking is that many international corporations, notably those based in the US and China, invest in UK operations so they can have ready access to the free trade agreements that UK enjoys with the rest of the European Union. So since the “leave camp” one, many of those companies are worried that their profits could be drastically reduced.
  • There are those who are ringing the warning bell that Britain’s exit could lead to more EU exits; and therefore, throw off the current global trade balances.
  • Investors have already begun to move out of the British pound and into cash that’s perceived as safe – the Swiss Franc, the Japanese yen, and of course, the US dollar. While being a safe haven could sound like a boom for the US economy, such a large, sudden currency swing could have significant negative implications for American corporations that do business internationally.
  • In the weeks leading up to this vote, major international banks and financial companies have discussed their concerns about the risks to global growth, trade, foreign investment and financial market s stability.  Many have already taken steps to soften these risks.

What Can We Expect from Global Equity Markets?

  • Even though polling had suggested that there would be a close outcome, equity markets globally and not really priced in a significant chance that the “leave” vote would win.  There is no surprise therefore that there has been a significant negative short-term move.  The UK and European markets are likely to be hit the hardest, but I think most global markets will come under the strain as investors digest the news.
  • Most analysts agree that energy, consumer discretionary, automobiles and airlines, and bank stocks are going to be the most volatile in this environment.

Will Bond Markets Come Under Particular Pressure?

  • The exit vote and concerns about the durability of the EU will be negative for bond markets, particularly corporate’s.
  • In the short-term, we’re anticipating a flight to quality fixed-income assets like US treasuries.

 

Is There Anything We Can Do Right Now?

We recognize the potential for market volatility over the next few weeks and we’re ready to help you work through this. You are in a well-diversified and properly balanced portfolio. Market-based portfolios are used to fund long-term goals. So unless these goals have changed in the last day or two, (or you live and work in Europe), it doesn’t make much sense to overhaul an investment strategy based on a temporary downturn.   Nothing about the vote for Britain to leave the European Union suggests that the fundamentals of capitalism have significantly changed. You should continue to have confidence in your long-term ownership of pieces of the profitable enterprises that you own in your investment portfolio.  I will continue update my market commentary in the coming weeks and months.  

Remember this is not the end of the world but rather a journey to a slightly different world. If you are truly a diversified long-term investor with a solid financial plan, you are accustomed to the noise and will allow your portfolio to work for you over time. If you are inclined to react to headlines, try to temper your reaction by making minor adjustments versus wholesale changes to your portfolio. This is not the first and won’t be the last world event…..recall past events like Greece, the U.S. Fiscal Cliff, the downgrade of U.S. debt, etc.

As of right now, there are no changes that need to be made. I’m sure that each individual portfolio strategist will be making appropriate adjustments and reallocations. As you know, the strategists make frequent tactical changes, some defensive, some opportunistic.  I recognize that these kinds of downswings cause you a great deal of concern.  As always, I welcome your feedback and invite you to give us a call should you want to discuss your portfolio and/or come in for review. 

In closing, I’d just like to say that these economic swings are part of that pendulum affect that is natural, and even expected. I’m sure we can agree that we’ve endured many such swings and do so because stocks and bonds continue to be the best place to achieve long-term retirement security.

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