Download MARKET ACTION IN THE BREXIT AFTERMATH JUNE 2016 Given

MARKET ACTION IN THE BREXIT AFTERMATH
JUNE 2016
Given the inroads the “Remain” camp was perceived to have made in the final days of the campaign, the
outcome of Thursday’s “Brexit” referendum – in which British voters unexpectedly endorsed the U.K.’s exit
from the European Union – has caught global markets completely off-guard. The result has been a spike in
volatility and steep declines across most return-seeking assets, as the necessary repositioning within investors’
portfolios has been particularly abrupt.
The immediate impact has been a reversal in sentiment and resurgence in risk-off behavior, driving heightened
demand for traditional safe haven assets and a rapid paring of equity market risk exposure that has driven a
broad-based decline in global stock markets. Not surprisingly, foreign equity markets led the decline, their
weakness exacerbated by the sharp depreciation of the British Pound and the Euro: in Dollar terms, the MSCI
EAFE index of developed foreign equities dropped over 8% on Friday, while emerging markets exposure fared
slightly better. By contrast, the decline within U.S. equities was considerably more contained, the S&P 500
declining 3.5% on the day, while the small-cap Russell 2000 index declined 3.8%. Such declines, however, are
likely better interpreted within a somewhat broader context, given that – when one considers their strength
leading up to today’s action – U.S. markets were only down roughly 1.5% for the week, while foreign stocks
were down 3%. Fixed income markets were strong, as global interest rates moved sharply lower from already
depressed levels, while performance within alternative assets – designed to be uncorrelated and, in some cases,
even benefit from weakness in stocks – has been relatively favorable.
Although some have seized upon today’s market action to raise the specter of systemic risk and invoke a
potential “Lehman moment”, we put little credence in such claims, which we view more as fearmongering. The
financial system appears to be in a vastly different state today than in 2008, with less leverage, healthier
corporate and household balance sheets, and better-capitalized banks. In addition, global central banks have
been preparing for a possible Brexit upset and have been supplying ample liquidity as a result.
The impact of the British decision is material, however, and extends well beyond the immediate market reaction.
The truth is that much remains unclear at this point and may remain so in the months and even years to come.
Nonetheless, we can begin to draw some early conclusions and attempt to assess their potential effects on the
global economy. First and foremost, Brexit presents a clear and material increase to what was already
heightened global economic uncertainty, one unlikely to dissipate any time soon. As a result, the odds of a UK
recession have certainly gone up, while the already meager expectations for growth in the Eurozone have been
further muted. Although we believe the U.S. and global economy as a whole can still avoid recession, any
scenario for a pickup in growth has necessarily seen its timeline shifted out (along with any possibility of a Fed
rate hike.)
Meanwhile, the possibility of political contagion is very real, as Brexit’s apparent “success” is seen to add
credibility to the populist and Eurosceptic movements already growing across the Continent in response to the
migrant issue. This creates the potential for further political instability within the Eurozone, as other countries
ponder the benefits of going it alone; such thinking has already caused some to call into question the
backstopping nature typically attributed to the Eurozone structure, as was evident today in the spike in the credit
spreads of several of the peripheral European countries.
Such a backdrop reinforces our standing call for higher volatility, which we think will be with us for some time
to come. While we will continue to evaluate conditions next week and beyond, we are not currently looking for
a material further decline and believe investors would be ill-served by attempts to time the market. Over time,
these sorts of conditions have historically presented opportunities to long-term investors and, as a result, we
continue to deploy fresh capital, albeit both gradually and selectively. Nonetheless, in light of the nature and
scope of the issues currently faced by the global economy and markets, such allocations are by no means
“rushed”, as we acknowledge the possibility we may be presented with even more attractive entry points in the
weeks and months to come. As always, we encourage you to contact your Advisor or Jim Ayres, our Chief
Investment Officer, with any questions, comments, or concerns you may have.