Philip Saunders, co-head Multi-Asset Growth, gives his views on the EU Referendum result.
The views expressed are those of the Portfolio Manager at the time of publication. They may not reflect the views of all the portfolio managers at Investec Asset Management. Any opinions expressed are honestly held but are not guaranteed and should not be relied upon.
The result of yesterday’s referendum on whether the UK should stay within the EU led to a narrow victory for the Leave campaign. Whilst the polls had indicated that the voting would be close, there had seemed to be a growing consensus that the result would be to Remain and this seemed to be priced in to stock, bond and currency markets. We, therefore, feel that there may well be considerable short-term volatility in the wake of this surprising outcome. We believe, in the near term, markets will be pre-occupied by the following issues:
- Will ‘out be out’? Uncertainty will continue with the possibility of a further referendum. The actual exit process will not start until Article 50 of the Treaty on European Union is triggered.
- Currency volatility: Sterling has fallen sharply from levels that were effectively discounting a sufficiently convincing remain result. UK fundamental factors, chiefly a yawning current account deficit and a struggling property market are becoming less supportive1. Central Banks are likely to step in quickly to prevent excessive turbulence.
- Populist backlash: The euro and indeed European assets reflected little in the way of EU fragmentation risk, but the populist backlash is clearly not a purely UK phenomenon.
- UK equity market turbulence: UK equities have weakened sharply on the futures market and continued uncertainty will depress multiples and valuations. It will be important to discriminate between stocks that are likely to be affected by largely domestic cyclical factors, which need not be long lasting, and companies, such as banks, which may be affected more structurally. The market is unlikely to discriminate at first and hence, for those able to adopt a company by company approach, this would represent a longer-term advantage. Many UK-listed companies would actually benefit from sterling weakness either through improved competitiveness or from the translation of overseas earnings.
- Downturn in UK property: Listed UK property assets, which had been particularly adversely impacted from the last quarter of 2015 on Brexit concerns, are likely to reverse their recent gains. With much of the re-rating due to structurally lower long-term interest rates ‘in the price’, further weakness is possible.
- Depressed credit markets: European credit markets are likely to be negatively impacted in the short term, with credit spreads moving wider. Sterling denominated issues and UK bank credits are likely to particularly adversely impacted.
- Macroeconomic stability & dovish Fed: We believe that globally investors are generally cautiously positioned given growth concerns. The removal of referendum related uncertainty, although a continued problem for UK assets in particular, makes this a less comfortable position given recent macroeconomic stability and a softer rates stance on the part of the US Federal Reserve Board. Defensive assets, such as government bonds, may rally temporarily and riskier assets will arguably be negatively impacted in the short term. Thereafter, both will be impacted by global fundamentals and investor positioning.
Markets tend to adjust rapidly and sometimes overshoot. Investors are generally better off not reacting to the outcome of the referendum over the short term. Over the longer term economic and corporate fundamentals will drive investment returns.
- At 4.3% of GDP (IMF’s 2016 projection) the UK has the largest current account deficit of any advanced economy
- At 3.6% of GDP (Economist) the UK’s budget deficit is the third largest among advanced economies, topped only by Japan and Greece
- The UK has a trade deficit of US$190 billion, the second largest in the world after the US
- The UK has US$2.2 trillion debt outstanding, the third largest in the world after the US and Japan.