After months of uncertainty and market volatility, the UK has voted to leave the EU by 52% against 48% to remain. The Prime Minister David Cameron who campaigned vigorously for the UK to remain in the EU has announced that he will step down in October after a contest to elect a new Conservative party leader. The formal request from the UK to leave the EU, Article 50, will not be triggered until a new prime minister is in place. The focus for investors will now turn to the reaction of markets, and the short and long-term macro implications.
Investor uncertainty is understandable and markets will remain volatile. However the scale of the initial reaction in markets is entirely consistent with our expectations prior to the vote. Markets are functioning in an orderly manner at this point. Despite the fall in markets, it is important to keep this in context. This is not like the global financial crisis of 2008. This is about the UK's relationship with Europe, and will only have a small impact on global trade. The long-term geopolitical implications for Europe are of great significance and need monitoring.
For the most part financial markets are reacting as we expected in light of the referendum result with significant moves being seen - risk assets selling off and defensive assets such as US treasuries, Gold and safe haven currencies performing well. To some degree these moves will have been amplified by the fact that recent more positive ‘Remain’ polls led to risk assets and Sterling performing well over the last few days although as we watch the markets there has been some moves back already reducing some falls. For example, Global equity markets are off about 5% as we speak, with the UK down about 5%, Europe about 8% and US futures down 3%. Sterling (vs USD) is down almost 6% having been down over 10%.
We will be watching the markets closely for opportunities that come out of volatility potentially taking profits on those defensive assets that have performed well and reinvesting in areas that have been marked down.
Some of the areas that we would be looking to invest, subject to market levels and valuations, would be UK Large cap equities, which have significant overseas earnings (that will benefit from a weaker Sterling), US Equities and UK Index-linked gilts taking care to take relative currency moves into account. Other equity markets may also have had their attractiveness altered based off significant currency and market moves.
It might take time for the dust to settle and for financial markets to find new shorter term levels. In some markets, such as Fixed Income, we are seeing significant bid-offer spreads which is understandable given the levels of uncertainty and proximity to the weekend but this does mean we have to be much more careful with regard to decision making and implementation. However, more liquid markets such as currency and equity markets have been exhibiting larger moves making the timing of dealing more crucial.
Markets, and many investors, dislike uncertainty and as such risk premias will have increased as has volatility within markets. However, volatility will give rise to some significant opportunities. This is a time for investors to focus on long term fundamentals.
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