Alert: Brexit Triggers Global Reaction
Fears that the British would vote with their feet and leave the European Union came true, narrowly, yesterday, and today markets are paying the price. A slight majority of UK voters (51.9% to 48.1%) felt that greater autonomy was the key to solving the country’s social, economic and political problems. Although the separation may take two years or more to complete, this mandate is rattling the already fragile global financial markets, which must now go through the tedious, unpredictable process of recalculating the value of stocks, bonds and currencies affected by Britain’s departure from the EU.
An hour after U.S. markets opened, they were only down about 2%, and already stabilizing. This doesn’t mean nasty market surprises couldn’t happen, but we would guess after the dust settles—including lots of margin calls and covering short positions—cooler heads will prevail.
At Investing Daily we adhere to a systematic approach for evaluating global financial markets to identify investment opportunities. Emotions can run high, especially in cases like Brexit that involve nationalism as well as the usual greed and fear dominating the markets, often leading to unintended, even disastrous, consequences. For over 40 years Personal Finance has addressed these issues head on, and we will continue to do so as the repercussions of the Brexit vote roll through the global economy in the weeks and months to come.
Ironically, when I submitted my cover page article for the current issue of Personal Finance a little over two weeks ago on June 8,I noted the apparent lack of anxiety in the global financial markets over the approaching Brexit vote as illustrated by the volatility index. VIX measures the expected volatility in the stock market based on the change in pricing for short-term index options. Had my deadline been just a few days later, that same chart would have shown me that concern was mounting over the referendum, as the VIX jumped 50% between June 8 and June 13.
Simultaneously, the stock market also reflected a heightened level of anxiety with the Standard & Poor’s 500-stock index bottoming out at 2071 on June 17, after cresting above 2119 on June 8–a quick 2% drop based on little more than the fear of the unknown. Neither the VIX nor the S&P 500 ever came close to signaling the same degree of fear that accompanied the steep drop in oil prices earlier this year, suggesting that the smart money didn’t believe Britain would bail out of the EU.
Now that we know differently, what else can we conclude from Brexit? In the near term, we know this will create havoc in the financial markets, but these three concerns should trouble U.S. investors long term:
- Whether we care to admit it or not, our economic well-being is inexorably tied to the fortunes of countries over which we have little control. As the result of a tightly contested vote by citizens of a small cluster of nations representing less than 5% of global GDP, the remainder of this year will most likely consist of wild gyrations in the stock, bond and currency markets until a new set of equilibrium values have been discovered.
- Brexit is only the latest in a series of global events that point to a growing unrest with established political leadership. Whether it was the Arab Spring in the Middle East a few years ago or the rise of rebellious presidential candidates like Donald Trump and Bernie Sanders in the West this year, people everywhere are becoming increasingly vocal in their dissatisfaction with the status quo. New political leadership usually means new economic policy, in some cases policies that are strikingly different, the full impact of which may not be known until decades later.
- There are no allies when it comes to economic self-determination. Although Britain enjoyed a strong partnership with Europe for the past half century, these alliances of convenience quickly dissolve when voters are left to choose between economic sovereignty and unity. The same issues sparking Brexit currently plague many other European nations, in some cases to a greater degree, so don’t be surprised if other countries eventually follow Britain’s rush for the exit.
So there’s a lot to think about, but no reason to panic. We’ll be shifting our commentary more to foreign markets as a result of Brexit, and factoring it into our portfolios, as needed. But we’ll be sticking to long term, systematic, and profitable investing strategies.