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Brexit: How To Remain Calm And Carry On

Steve Pomeranz, Brexit

The news is out! We all now know that Britain has voted to leave the European Union. Is this a big event? You betcha! And it’s going to change a lot of things.

But, first, let’s take a step back and remember how we arrived at this point. If you were brought up in the 20th century, you know that the European continent has been witness to countless wars and horrific bloodshed during the 19th century and before. So after experiencing two devastating world wars, a movement began to unite the continent through trade and institutions, which, in effect, would enable free trade laws, freedom of movement, and the reduction of barriers—all managed by technocrats and bureaucrats rather than by nationalist parties competing for resources and wealth through open conflict and misery.

What has followed have been six decades of integration and the fostering of cooperation between neighboring states instead of war and pestilence and misery.

So one can say that, in the effort to serve the goals of peace and collaboration, the European experiment has been a resounding success— and a remarkable achievement. “Six decades ago, the Continent was at war; and three decades later, it was divided by the Iron Curtain and haunted by the threat of nuclear war. Today, one can rent a car in Portugal and drive all the way to Estonia without facing any border controls. EU citizens can study, work, and retire anywhere they want in the Continent”. So writes Stratfor Global.

It’s important to note that Britain’s role from the start has been conflicted. And according to the research company Stratfor Global, “Britain has been maintaining some distance from the Continent as a key part of its national strategy since the beginning. London has been skeptical of the European project from its inception, interested more in the bloc’s common market than in any federal aspirations.”

These feelings have been nascent and a great deal of Euro-scepticism has been present, as I said, from the very beginning.

So, importantly, this vote to “Leave” has crystallized the concern that attempts to centralize the European bloc may be doing member states more harm than good and that, to varying degrees, the feeling is that countries may be losing their identities and control of their own destinies.

Whether this is actually true is cause for much debate. But, nevertheless, it has fostered some feelings of xenophobia and rumblings from other nationalist parties, which is a movement, in my opinion, toward darker times once again.

Perhaps it is correct that individual states have lost some control over their own destinies and that restoring rights that these countries should not have lost in the first place is a positive step, which could explain why the European Union is losing the battle for its citizens’ hearts and minds. Perhaps the European Union is at once too centralized and not centralized enough, and this middle ground is becoming increasingly untenable.

Okay, let’s talk right now about what this means to US investors.

Up until this vote, stocks were vacillating significantly. If the vote leaned toward “Leave”, the market went down 150 points. If it tilted toward “Remain”, it would jump 200 points, and, as a matter of fact, the night of the vote the US market increased by 230 points.

Now that the “Leave” vote has been cast, the markets are wildly gyrating to the down- side.

Are there serious implications for the US? The answer is yes but not nearly as much as the repercussions Britain may feel when things begin to settle out.

Our Federal Reserve Chair Janet Yellen recently stated that a British exit from the EU “could have consequences in turn for the U.S. economic outlook.”

Stocks will decline as uncertainty mounts and the future becomes cloudier. It is entirely possible that corporations that have been planning to spend on capital investment will hold back for a while until the dust clears. This is already one of the reasons our economic growth is slow, so there is a risk that this may cause some further slowing down.

Stocks will be affected over the near term. Don’t be afraid if you read any analogy to a Lehman Brother’s type meltdown. This is probably not in the cards because all governments have pledged to support their institutions. This pledge was made recently by the Bank of England. The US did not pledge to support Lehman Brothers.

Secondly, we will see interest rates decline as investors pile into safe assets like US Treasuries. Gold will see a boost for the same reason.

Remember that this is a referendum, not a vote by the British Parliament; so while all indications lead us to the view that the referendum will be carried out, it will take a few years to work out all of the details. My guess is that as the effects of the vote become apparent, British policy will adjust accordingly.

US investors should stay the course for now. The declines we are seeing as I write this are due to the selling of stocks and other assets of all those who had bet on a “Remain” vote. As I mentioned earlier, the market was up significantly the day before, so all those buyers and others who had been accumulating investments ahead of the vote will be forced to unwind their positions immediately.

Once that is out of the way, certain sectors will begin to show relative strength. My guess is that health care and consumer non-discretionary stocks, like food companies and the like, will be less affected. Also, utilities will probably do well in this environment.

Bonds will be good money for the foreseeable future, so if you own any long-term bonds, you will see some nice increases in bond values.

Some final thoughts:

  1. Remember that although the UK economy is large, it’s not that large in the context of the global economy.  The UK economy is only the size of California and Maryland combined
  2. The stock, bond, and currency markets have reacted with an extreme level of emotion and, during times when the market is ruled by fear and emotion, it is most prudent to either sit tight or even take advantage by deploying new capital into “risk assets”.

Please remember that it is a fine line between Investing and Speculating. If you decide to bet on a short-term direction of the market by shorting stocks or buying put options or ETFs, which go up when the market goes down, you will be speculating. Speculation is generally a loser’s game, especially for the non-professional. And, truly, there are few professionals that make any money at it, too.

Buying the general market at a reasonable price only to hold for a long time should be your best decision.

If you are approaching retirement, my advice is to be extra conservative in the few years leading up to your retirement and a little after, as well.

Think Diversification. Think High Quality. Think Long Term.

These will bring you the greatest wealth over time.

And remember, if you ever have any questions, please write in and ask.