How Brexit May Affect U.S. Investors

Stocks fell sharply last week in response to Britain's vote to leave the European Union (known as the Brexit), putting major indices in the red for 2016. Why did markets react so badly?

The vote to leave was a surprise to most, and markets don't like negative surprises. It's too soon to know how Britain's exit (Brexit) will play out, but the more pessimistic predictions include a British recession, a breakup of the EU as other countries vote to leave, or the introduction of reforms by European leaders who see the writing on the wall. Since the referendum result isn't binding on the government, there's even a very small possibility that the Brexit won't happen at all. It's anyone's guess at this point.

To help you understand how the Brexit may affect you as an investor, here are answers to some key questions:

How will Britain's vote affect markets?

In the short term, we're likely to see a lot of volatility in financial markets around the world as investors grapple with the uncertainty of possible Brexit outcomes. In the intermediate and long term, it is likely that markets will digest and adjust for the new normal and then move forward. Remember that if a British exit moves forward, the process will take at least two years and probably much longer.

Surprising geopolitical events tend to cause an initial overreaction in the markets, and then things tend to steady as the details are fleshed out. If we look at similar events such as the Fiscal Cliff standoff in 2011 and the European debt crisis in 2012, we see that though stocks fell significantly in the days and weeks that followed, but then prices later rebounded as the uncertainty cleared.

Is that what will happen this time? Possibly, but that is unknowable at this point. While political events like this rarely have a long-term effect on markets, we should also keep in mind that each event is different and has to be actively managed as the details unfold.

How will Britain's vote affect the U.S. economy?

Currently, there's no consensus from economists on what the fallout in the U.S. will be. Trade with Britain accounts for just 0.31% of U.S. Gross Domestic Product (GDP), so British problems  with trade won't necessarily affect us. However, the dollar is often viewed as a safe haven in times of international turmoil, which is pushing the dollar's value up versus other currencies. A stronger dollar may weaken demand for U.S. exports, which could be a headwind for our economy.

Globally, Britain accounts for 4.82% of worldwide GDP. We don't yet know how negotiations over trade, labor, and finances will affect Britain's economy. If Britain's exit kicks off a mass exodus of EU member countries, we can certainly expect a greater impact on the global economy. However, it's too soon to know if that will come to pass. Remember, Britain only voted to leave the EU, not to leave the global economy.

Britain's vote will likely affect Federal Reserve policies this year. Post-Brexit, expectations of a rate increase this year have gone down tremendously. Some experts even suggest that rate cuts may be back on the table if economic growth slows.

Our View

Though it is not likely that the Brexit is the beginning of a global crisis, we want to acknowledge the short-term risks it poses to markets. History shows that bull markets (like the one that started in 2009) don't die of old age, but for now we are facing growing headwinds from abroad that may threaten the bulls, at least in the short term. It is also possible that this event just causes the major equity markets to continue in their broad trading range that has existed for over a year.

Unfortunately, no one knows for sure how this process will unfold. What we can do in the meantime is focus on long-term investment objectives and look for the inevitable opportunities in the turmoil. The emotional reactions of others may create rational opportunities for calm, patient and prepared investors, and we intend to be on the lookout for those situations.

We are continually monitoring client portfolios and evaluating economic data and market research as it arrives. We will keep you informed as always, but please do not hesitate to contact us if you feel the need to discuss issues in more detail or if you feel the need to make changes to your investment objectives. We are aware that turbulent times are when you count on us the most, and we are ready to deliver for you.


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