A pretty wild day for the markets Friday after the UK voted to leave the European Union. Well, actually, it was just a referendum and non-binding but ignoring the will of the voters is not a good way to keep hold of the levers of power. So it probably does mean the UK will leave the EU. It certainly means a change in the UK government as David Cameron fell on his sword after supporting the "stay" side. Boris Johnson, the former mayor of London, looks like a front runner for Prime Minister now if you can believe that. And Scotland will certainly revisit their independence vote. So, lots of turmoil to come in the UK.
The immediate and most dramatic market result was a selloff in the British Pound of over 10% but a steady recovery in US trading pushed it back up to an 8% loss. British stocks were also down hard but oddly enough not nearly as much as those on the continent. The FTSE was down a bit over 3%, a walk in the park compared to the double digit losses in Spain and Italy. Germany and France were down about 7% and 8%, respectively.
Asian stocks were also down overnight, Japan's Nikkei taking the brunt of it, down 8% on the rapidly appreciating Yen. And of course, the US markets had to join the party even though finding a connection between Brexit and the US economy requires more than a little imagination. The Dow Jones Industrial Average fell over 600 points and the S&P 500 was down 3.6% at the end of a dramatic day.
For our portfolios though, the losses in stocks were mostly - or completely for some client portfolios - offset by gains in bonds and gold. There has been a lot of discussion recently in the investment community as to whether bonds, with already low yields, would provide the diversification benefit they have in the past. Well, question asked and answered. Bonds did exactly what we expect them to do in these situations. Gold played its role too, acting as a safe haven when storms hit the market.
Some initial thoughts on today's markets:
1. Despite the knee jerk negative reaction of markets today, the final verdict on this vote will come in years not months, weeks, days or certainly hours. Making snap investment decisions based on what happened today is likely to produce a mistake. We will stick to our methodical process.
2. This doesn't change our outlook for the US or global economy - yet. Not much changed in our major indicators today. Credit spreads widened some but are still much narrower than they were in February. The yield curve flattened some but that just continues the previous trend. Valuations are better than yesterday but the change is marginal. Long term momentum already favored bonds and gold over stocks; that's why we were positioned as we were coming into today. It is possible that we change our outlook but today didn't change anything.
3. The most interesting thing about today was the action in currency markets. We spend a lot of time - more than almost any investment firm I know - thinking about currency markets and their impact on the global economy. In today's globalized economy, currencies are the front lines, the first to react. Today, the most interesting aspect of the currency markets was, in my opinion, the action in the Euro. Despite the fears that this leads to further defections from the EU, the Euro was only down about 2%. It was much lower early but spent most of the day coming back. If this is really so negative for Europe shouldn't the Euro have fallen more? Or to put it another way, shouldn't the dollar have been stronger?
4. The movement today was fairly minor - 600 Dow points ain't what it used to be. The S&P 500 is basically flat for the year after today and trading at the same level as mid-May.
5. Bonds did not make new highs today. The 10 year Treasury note ended the day at 1.58% but we actually traded lower intra-day just a couple of weeks ago. The 10 year at that level says nothing good about the US economy but it isn't really worse than what we've seen recently.
6. Fed rate hikes are probably off the table for the rest of the year. We'll be thinking about the ramifications of this over the weekend and the coming weeks. For now, I'm happy with how our portfolios performed and will not be making any dramatic changes. We do a full review of our asset allocation every month and we'll stick to the schedule. The next update will be the week of 7/4 and unless something dramatic happens - and today wasn't it - we'll keep to that schedule.
And as the British say, keep calm and carry on.