Brexit To Ripple Through Markets For Weeks

| About: iPath GBP/USD (GBB)

Summary

Brexit was a surprise high impact, low probability event.

Although stock markets got crushed, Brexit had an easy hedge.

Brexit signals a new epoch of markets, with new currencies, new rules.

Other countries can follow Britain, splintering the EU into pieces.

Britain will leave the European Union. The European Union (EU) - a noble idea hatched in the smoke of burning rubble after World War 2, now has an existential threat. The very question of the existence of the EU itself, and of the Euro, now is open for debate. Before Brexit, it wasn't a question. Unlike most EU countries, Britain maintained their own currency, the Great British Pound GBP traded on the stock market as iPath GBP/USD Exchange Rate ETN (NYSEARCA:GBB). Other countries however, do not have such luxury. Spain, for example, that uses the Euro, has no other currency. So for other countries to leave the EU, it's not so easy. Brexit is not only bearish for the Pound and UK in general it's a sign of a splintering of the European Union itself.

Americans can easily make the analogy of the United States and the revolutionary war. There was a time when, 13 colonies didn't want to be ruled by a King so far away, with no connection to America other than to get taxes and fees. America decided its own fate, by creating a new nation state, designed mostly by Illuminati freemasons (which were banned in Europe) like Benjamin Franklin. So it's ironic that now the US who is tied to the UK economically and politically, witnesses such a dramatic "Brexit" from the idea of the European Project, the EU.

And it is also ironic, how the British intellectual choir is already calling for a superstate, similar to how the United States evolved and finally was created:

Britain should have been party to helping Europe out of this trouble. It should now take the initiative and be party to helping from the outside. The visionary outcome of a leave vote ought to be a grand debate across the continent, a search for a new confederacy of nation states. What is needed is a new Europe for the 21st century, to replace the ramshackle corporatism erected in response to the 1945 settlement, a confederacy in which Britain should be proud to participate. That vision may yet be far off, but so once was the EU.

While Europe sorts out its social evolution - how does that impact markets, and how can investors protect themselves?

Today's move shows that - even if you aren't invested in Forex - Forex can impact your portfolio. The Dow Jones (NYSEARCA:DIA) down more than 3% for the day. Everyone understands why this happened, but few understand how to protect a portfolio from it. In the most basic form, sell.

Take a look at chart for past 6 months:

GBB Chart

GBB data by YCharts

The one day drop on the right happened in a few hours.

Now take a look at the same chart for GBP/USD:

By itself, the move doesn't seem so dramatic, but it's an FX record. It's the largest biggest one day move for a major currency in decades. And more importantly, it impacted all other markets. Trading curbs were in effect in overnight futures trading. In one sentence, Brexit created a global market crash.

But where there's risk, there's opportunity. FX traders made a bundle last night. A $100,000 account that traded the down move from 1.50 to 1.3250 would have made 1750 pips, or $17,500 with no leverage. Using 10x leverage, that's $175,000 on a $100,000 account - in 1 day. Investors can look at this in a few ways. One, it's a hedge against other investments that mostly would have been in the red today. Two, this opportunity only came in conjunction with stock losses. That means - if Britain voted to remain, would have rallied, and thus a different scenario.

Congrats to all those in FX who used this unique scenario to hedge their portfolios or make a profit. This should be a wake-up call to equity investors with no FX exposure. Even if you don't want FX or don't understand it, there are more situations and referendums to affect the markets.

Greenspan says this is the tip of the iceberg:

The former Fed chairman said that the root of the "British problem is far more widespread." He said the result of the referendum will "almost surely" lead to the Scottish National Party trying to "resurrect Scottish Independence."

Greenspan said the "euro currency is the immediate problem." While the euro and the euro zone were major steps in a movement toward European political integration, "it's failing," he said.

That means there's more to come. It's about time that investors protect themselves. ETNs like GBB are just some of the ways investors can protect their portfolios. A good start is to pick up a mini-educational seminar like Splitting Pennies - Understanding Forex. Another good step is to look at the Currency ETFs and ETNs - there are many of them. While the leverage isn't the same as in Forex, it's possible to trade them in your equity account, and they have options too.

"The Elite" have been making money with Forex for centuries. To drop a few names in the news today, it is not ironic that Soros and Druckenmiller made a fortune today for their funds. They're short markets and long Gold. It's also ironic that in particular, Soros again made a huge profit from the fall of the Great British Pound, a trade he is famous for decades ago when he nearly 'broke the Bank of England.'

But politically, Soros had lobbied for Britons to stay in the EU:

"Too many people believe that a vote to leave the EU will have no effect on their personal financial position, "Soros wrote in an op-ed piece published by the Guardian newspaper earlier this week. "This is wishful thinking."

He added that in the wake of an exit vote, the British pound would fall precipitously - as it did Friday - and that there would be "an immediate and dramatic impact on financial markets, investment, prices, and jobs." Whether Soros's portfolio was positioned specifically to benefit from a British exit of the EU, however, through a long bet in the pound or other means, was never clear.

And let's not forget to mention another derivative play - the US Dollar. The way currencies are traded, they are traded in pairs. So when the GBP is falling also the USD is rising. PowerShares DB USD Bull ETF (UUP) is up more than 2.5% today. There's another equity hedge.

The good news is that there's plenty of options to craft a solid portfolio to weather any market storm. Brexit wasn't an anomaly, we knew it would happen for months. It wasn't as if something fell from the sky and caught people by surprise. Although the vote for "Brexit" was a huge surprise, the possibility was there. It was a known risk. Investors who didn't hedge took that risk without knowing it. So it goes to show that just because you're not in the Forex market, you are still exposed to Forex related risks. That's because the Forex market underpins every stock market in the world. US Stocks are settled in US Dollars (NYSEARCA:UUP). FTSE stocks are settled in Great British Pounds.

And as today's events have shown, a small referendum based on a legal contract (that of the EU) can have global effects on nearly every tradeable instrument on the planet.

The Bank of England has agreed to provide support to markets and FX markets:

"Central banks are always the first line of defense, and they can do something to stabilize the situation but they can't fundamentally alter a negative trajectory," Guntram Wolff, director of the Brussels-based Bruegel Institute, said by phone. "Monetary policy will be operating in huge uncertainty, and the realization that anti-European sentiments can actually win will weigh on sentiment and could bring back the possibility of recession."

.. But unless you own your own Forex bank, that isn't going to help investors directly - it will just support markets in general. And it can support a run on the Pound, should it occur. For sure, they have other central banks behind them, most notably - the Fed.

However one looks at this situation, it is at a minimum a wake-up call to investors and companies that don't have FX in focus. The key difference to remember - people don't have to buy stocks. But people need FX.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.