Just like no one really knew how the Brexit vote would turn out — and many forecasters got it wrong — it’s difficult to know now how Britain’s vote to leave the EU will affect global economies and markets in the longer term, but today it’s been a bloodbath.
At different points during Friday’s trading day, the British pound was off 11 percent, major stock indexes in the U.K., Western Europe and Japan were all down 8percent and the Dow Jones industrial average was off 500 points. The Dow ended the trading day down 611 points, or 3.4 percent, at 17,400. On the flip side, so-called safe haven investments rallied. Gold surged as much as 8 percent before closing up 4.7 percent at $1,322 an ounce, and the yield on the 10-Year U.S. Treasury note plunged as low as 1.4 percent before rebounding to 1.57 percent by the end of the day.
Central banks, including the Bank of England, European Central Bank, the Federal Reserve and even the People’s Bank of China, responded to the carnage by pledging to provide liquidity to global markets as needed.
What happens next to global markets and the global economy is still uncertain, and markets, as we hear continuously from strategists and analysts, hate uncertainty, so advisors should be prepared for a bumpy ride.
FSR chief Tim Pawlenty says investors “should seek the advice of professional investment advisors as they contemplate” Brexit implications.
Here are some of the developments that financial advisors should be watching for:
1. Continued volatility in financial markets.
“The next few days will certainly test investors’ tolerance for risk,” writes David Lafferty, chief market strategist at Natixis Global Asset Management. Jeffrey Kleintop, chief global investment strategist at Charles Schwab, expects the volatility “will remain a major characteristic of markets in 2016.
“Longer-term investors may want to maintain their diversified asset allocations intended to weather volatility on the way to longer-term goals,” writes Kleintop.
On the flip side, U.K. and European stocks are now cheaper for global investors and foreign buyers of European companies. “If European currencies and equities remain weak, “I would be very surprised if you did not see an increase in M&A, i.e., foreign buyers taking advantage of the weakness, when viewed from their own currency,” writes Stephen Peak, director of international equities at Henderson Global, which is based in London but has a U.S. office.
Among the most vulnerable stocks: financials. “Financials are potentially the biggest victims of a Brexit because of both the financial and economic shocks,” write BofA Merrill Lynch analysts. “We think further earnings downgrades are likely and we cut to underweight.” They’re favoring defensive stocks like utilities and health care.
2. A stronger dollar, which has implications for other markets.
Commodity prices, which tend to move in the opposite direction of the dollar, could fall and emerging market stocks, fueled by concerns about dollar-denominated debt plus tighter financial conditions, could weaken, according to Kleintop. But gold, unlike industrial commodities, should “gain firm support,” according to Bank of America Merrill Lynch analysts. Gold prices surged above $1,300 an ounce on Friday to their highest level since March 2014.
A stronger dollar has implications for U.S. multinationals that export to Europe, which will “see more material weakness in overseas profits,” notes Charles Lieberman, chief investment officer of Advisors Capital.
3. Recession in the U.K. and weakness in the Eurozone.
“Brexit is very bad news for the U.K. economy. It is bad news for the euro area as well.” write Merrill analysts. “We expect the U.K. to quickly enter recession.” They expect Brexit will shave 0.5 percent to 1 percent off European GDP.