Brexit Re-Deux?

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Rick Kahler MS CFP[By Rick Kahler MSFS CFP®]

British voters shocked the world last week with their 52% to 48% decision to leave the European Union. The uncertainty of how this complex divorce will play out over the coming decade sent global markets reeling.

In fact, London’s Financial Times Stock Exchange 100 lost 4.4% of its value in one day, and the British pound sterling was down 14% against the yen and 10% against the dollar. The financial news media went berserk.

Britain has two years after notifying the EU of its intention to leave to negotiate its exit with policy makers, so we can expect the markets to remain volatile for some time.

Why all the fuss?

The thinking is that British companies will lose access to the European market for duty-free trade and financial services. Some think London will no longer be able to function as Europe’s financial center as it has done, since companies have long seen Britain as the gateway to free trade with the 28 nations in the EU. Eventually, Britain could lose American investment and manufacturing jobs that would move across the channel to mainland Europe. However, this is all speculation. Nobody knows exactly how the Brexit will play out long-term.

One reason it’s unwise to assume the worst is because the Brexit vote is not legally binding on the government. Since British Prime Minister David Cameron resigned his post and called for a new election by October, it’s possible the new government might decide to delay withdrawing from the EU. Or Parliament could instruct the new prime minister not to notify the EU that Britain is withdrawing until the government has had a chance to study further the implications. There could even be a second referendum to undo the first.

Given all these uncertainties, what was and continues to be my advice to investors?

It’s Quite Simple – Do nothing!

The current market disruptions represent an emotional roller coaster, a short-term panic reaction to what is likely to be a very long-term, well-constructed exit from the EU. British companies were certainly not 4% less valuable the day after the vote than the day before, and the pound sterling is not suddenly a second-rate currency. The US, China, and Japan are not part of the EU. Global economies function fine and they will continue to function without Britain in the EU, just as they functioned well before the EU was created in 1989.

The emotions of traders and speculators are driving the short-term market responses to a long-term event that will be worked out by reasonable people who will have their nation’s economic best interests at heart. Long-term investors who sold because of the Brexit will undoubtedly realize they were suckered and manipulated once again by panic masquerading as an assessment of real damage to the companies they’ve invested in.

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british_pound_sign_black

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Good News

The good news is that long-term investors who are diversified have only a minority of their portfolios in equities. While the Brexit was not good in the short run for Britain’s currency and global equity markets, it was a positive for investment vehicles. Gold, bonds, and managed futures all profited nicely upon the news of the Brexit. The strategy of global diversification worked—again. And, if equity markets decline sufficiently, long-term investors will be able to rebalance their portfolios by selling a portion of what has appreciated and buying equities. That is called “selling high and buying low.”

Second Thoughts?

Assessment

However much short-term disruption there may be, Britain and the EU will find a way to move through this unexpected event without too much damage. Like every other recent short-term financial calamity, Brexit will become just another blip on the long-term charts.

Conclusion

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2 Responses

  1. Rick,
    A non-event.
    Brad

    Like

  2. Five Thoughts on an Investor’s Post-Brexit World
    [The British are going – after stocks close near record highs after strong jobs report]

    The British are going! Pardon the reference from the year 1775, but I was in Europe during both the Brexit vote and the Independence Day weekend. I met people from all over the world, and the first country voting to leave the E.U. was obviously a major topic of conversation. During a summer of scorching high temperatures (both with the weather and political) and freezing cold interest rates (sub-zero in much of the developed world), this is no surprise. We are all trying to get our heads around this, so here is my take for investors nearing retirement or retired already.

    1. Globalization has occurred, powered by technological advancement. This is not new in our history, but it really has accelerated since the early 1980s. Now, 36 years after MTV debuted, the world is a very diverse, yet far more connected place. A walk down Via De Corso, the main shopping street in Rome, or many similar places throughout European cities tells you that our cultures, however different, have many overlapping areas.

    As investors, we now see the good and the bad of information travelling at the speed of light. This increases price volatility and also leads some to resort to indexing the core part of their investment portfolio in the belief that markets are totally efficient. I disagree with that in this case.

    2. The global economy, particularly that of the U.S., has experienced growth since the end of the financial crisis. But much of that was driven by a not-so-invisible hand: Central banks’ loose monetary policies, which have brought us not to “the brink” of zero interest rates (the financial media loves to use the phrase “on the brink”), but beyond zero to negative rates (-0.75% in Switzerland, -0.65% in Denmark, -0.50% in Sweden, and -0.10% in Japan).

    So, as I see it, this is all borrowing future investment success and pulling it forward to enjoy. I hope you enjoyed because it could get tougher to make whatever target return you planned for years ago. That means you have to dig a little deeper and think with more flexibility than in the past. Laziness and denial in the years ahead will likely leave you frustrated and disappointed. Just as in the E.U., the rules of engagement have changed.

    3. Relying on a “shake up” in government is not something you as an investor should rely on to improve the investment climate. That is not a political statement. Regardless of whether you favor Leave or Remain, Clinton or Trump, Cubs or White Sox (sorry, had to insert some baseball in there) or other critical 2016 decisions, the investment market’s dark clouds will not vanish any time soon based on those outcomes.

    I think that was pretty obvious when two of the leading “shakers” of the British government’s future, upon winning the biggest vote of their careers, promptly said they did not want to be in charge. Winning the war gets all the headlines. But as investors, winning the peace is even more important.

    4. The labor-skills gap is at the center of all of this and the problem is getting bigger. One of the over 70 market scenarios I “crash test” my portfolios against with the help of the Hidden Levers analytics system is called “Robot Takeover.” This is the evolution of technology replacing some of the jobs that used to be done by humans. Ask someone who was a travel agent 30 years ago about this.

    As this year goes on, I will discuss my firm’s favorite long-term investment themes, at which point I will provide more detail.

    5. Protectionism = economic death. Debate it all you want, we all have our opinions. The drumbeat for protectionist/isolationist policies is as loud as I can remember in 30 years in the money-management business, from many parts of the world. If we actually do see a major part of the globe turn inward economically, this will provide a long list of new long and short ideas for hedged investors like me.

    This is one reason why long/short investing, especially for income-oriented investors, is something I expect to become much more popular in the years ahead.

    It is also why thinking with a contrarian mindset is so important now.

    Vince Esposito
    [Sungarden Investment Research]

    Like

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