Brexit: Wimbledon Tickets on Sale
On Thursday, June 23rd, the world learned that the United Kingdom voted to leave the European Union. Voter turnout was extremely high at 72%. When the dust cleared, the votes for “Brexit” won 52% to 48%. Polls leading into the vote indicated that the citizens would vote to stay in the EU, so the result came as a big surprise to many. This resulted in dramatic moves in world markets. The British pound fell over 11% on Friday, June 24th, and hit its lowest levels vs the US Dollar since 1985. Equity markets around the world fell and the US bond market rallied. But to put things in perspective, as of this mailing, the US stock market is now about flat on the year.
The UK vote represents the degree to which a large number of citizens around the world feel disenfranchised by the established system of government. There is a growing rift between the media, the political and business elite and the average citizen throughout Europe and the United States. How the dialogue between world leaders and their citizens evolves will have a big impact on how we all interact going forward.
The short-run issue we face as investors is that these systematic traders are often forced to sell stocks in quality companies because that is the only bid they can get. This is resulting in the drop of many stocks even when it is difficult to see a correlation between their business prospects and the UK vote.
On its own, we do not view the United Kingdom leaving the European Union as having a large impact on the US economy or the long-term health of the US stock market. Many argue that the UK is not a “real” part of the European Union and is a member in name only. The UK does not subscribe to the EU common board policy or support borderless free movement and never adopted the Euro currency. At the end of the day, this is a trade agreement for the United Kingdom which will need to be renegotiated over the next few years.
The big concern is if other countries in Europe look to pull out of the 28-member European Union. Most other EU countries are more intertwined with each other than the UK. More importantly, EU countries that participate in the Euro currency would have to reintroduce their own currency which would be a very involved process with unknown consequences. We believe the volatile reaction to the UK decision will give pause to citizens in other countries as they contemplate the future of their country. Many citizens of the UK, who voted to exit the EU, are suffering from buyer’s remorse since the results were announced. Scotland has discussed options to fight the results and several million UK citizens have signed a petition calling for a revote.
So why are the markets taking such a drastic hit due to this one vote? Today, more and more money is invested with models run by computers. Mathematical algorithms create portfolios based on a lot of statistical data. When unexpected events occur, we often get a spike in volatility which flows through these trading systems and causes a lot of the moves we have seen since the Brexit vote. The short-run issue we face as investors is that these systematic traders are often forced to sell stocks in quality companies because that is the only bid they can get. This is resulting in the drop of many stocks even when it is difficult to see a correlation between their business prospects and the UK vote. The challenge for us as money managers is to determine if this is a buying opportunity or the sign of extended economic turbulence ahead.
We at McRae Capital Management invest on a FUNDAMENTAL basis. We analyze companies based on their products and services. We assess the sustainability of the business model to ensure the company will be able to continue to operate profitably into the future. We are investors. With the information we have at this time, it is our view to continue to stay the course with a portfolio consisting of high quality stocks as well as shorter-term bonds in our balanced accounts. We will continue to monitor the situation in Europe to see if it looks likely that other countries will follow the UK’s lead. In that scenario, we would need to consider lowering our allocation to stocks, but do not see that as likely at this time.