Global Glimpse Report

What “Brexit” Means for You

It seems like just yesterday you were receiving one of our team’s proprietary research papers discussing “Grexit,” or the potential Greek exit from the Eurozone. Since then Greece’s troubles have popped up from time to time but have subsided dramatically overall.

Now, the United Kingdom has decided to leave the European Union in a vote dubbed “Brexit,” short for “British exit.” British oddsmakers (who are typically much closer to final vote counts than most polls) had put the chances of Brexit at around 30% leading up to the vote and only 6% at one point yesterday so this morning’s final tally has obviously surprised many investors.

Although surprises of any kind are always startling, we believe it’s important to keep a few things about Brexit in mind as you go about your day.

First, financial markets are prone to overreactions-both negative and positive. For weeks,  the financial markets had been creeping toward the “Bremain,” or “Britain remains” camp, so much of today’s negative market open is unwinding that recent positive momentum. For example, the financial media is making waves about the pound’s directional move from $1.50 last night to around $1.37 this morning, which is admittedly a very large move. But what they fail to mention is that the pound had been climbing from $1.40 since mid-June as investors increasingly assumed Bremain would prevail. After accounting for where we were just a few weeks ago, the move doesn’t seem quite so dramatic.

Second, nothing different in the UK will happen for quite a length of time. UK Prime Minister David Cameron announced he is stepping down in October and his successor will carry out the negotiations to leave the EU. That negotiation process won’t happen immediately. The negotiations themselves will take place over an extended period of time. Although there was a legal procedure written into the governing Treaty of Lisbon for how to handle the departure of a member country, it was never truly meant to be necessary.  This lack of procedural clarity will undoubtedly extend the departure process.

Third, although this is the first exit of a European Union member state in its relatively short history, it should be noted that the UK never committed to full EU membership to begin with. The UK did not relinquish its monetary independence to Brussels in the way that the other EU member countries did (Germany, France, Italy, Spain, Portugal, etc.). Retaining the pound sterling allowed the UK to determine its own monetary future while simultaneously benefiting from access to the EU’s “single market”.

While Britons undoubtedly received ample benefits for their membership (like open access to all of Europe for London’s financial district), voters apparently felt that the monetary and social costs of membership (unconstrained immigration policies, for example) were just too high. When push comes to shove, it seems that people (and nations) still act in their own perceived self-interest.

Finally, the near-term impact on our domestic stock markets is likely to be exaggerated relative to the actual impact on the US economy. The US and the UK are strong economic, military and, some would say, cultural, partners. This relationship is unlikely to change simply because the UK’s relationship with mainland Europe has changed.

Similarly, the EU is our largest trading partner and that relationship is unlikely to be altered in the near future. While the final ramifications of Brexit will become more clear into the future, the abiding impact will likely be more political in nature than economic. In addition, the UK will likely remain an important trading partner with France, Germany, and many other large EU nations regardless of how the Brits align themselves politically.

We have been managing money for over two decades and have seen our share of “Brexit-like” events. If we thought the Brexit vote was going to be a life-changing event, your portfolios would have been positioned dramatically differently in advance of the vote itself.

Grexit, interest rate hikes, China’s slowdown, recession concerns and now Brexit have been the “crisis du jour” in the market in the past year or two. Somehow, one after another, the market has shrugged off these short-term concerns. As long as the companies we own keep earning, Brexit will be just another bump in the road.

Patrick R. McDowell