• Stonewood AM


I have waited for the dust to settle post the BREXIT vote. Not that we have not been asleep behind the wheel but rather we try to avoid making both irrational decisions and drawing incorrect conclusions. The outcome caught the market by surprise. Which itself is a little bizarre.

The reason it’s bizarre is that this should have been anything but a surprise. The polls prior to the event showed a very close contest and yet on D-Day the probability of “Leave” was only put at 25%. The market is a pricing machine. In theory, the more people there are trading, the more efficient pricing becomes. The prices of assets are determined by the markets’ expectations of future benefits that an asset owner is likely to derive from that asset.

The shock was that 75% of the market was essentially betting that the tightly contested polls would in the end select “Remain” and asset prices would remain as per the current status quo. When the outcome was in fact “Leave” the majority of the market realised that it had been pricing assets incorrectly because the economic status quo was no longer the reality that governed the market.

The aftermath was brutal. The market tends to react badly to surprises. It reacts very badly when the surprise impacts expectations around global economic growth which this shock clearly has. The Eurozone and the rest of the Developed and Emerging world will be impacted by this decision and global growth, which was fragile prior to the vote, seems destined for a rerating on the downside. How selfish the Brits now seem.

I find a little bit of comedy in what transpired. The comedy is in the fact that so few “experts” were able to predict this outcome with any sort of accuracy. The very same people we listen to daily for guidance got the outcome of this event completely wrong. The lesson to take home is how unpredictable markets can be and that anyone who professes to have any sort of looking glass is simply a liar or a fool. The market will surprise us again and again. As soon as you think you understand the dynamic at play you are quickly reminded how wrong you are.

For those that think the market impact of Brexit has already been felt in the few days that have transpired since the final polls were announced are sadly confused. The outcome will take time to filter into economic realities for global market participants. The speed at which these changes will impact the markets is uncertain and the asset classes that will be impacted are also not set in stone at this point. There is simply too much uncertainty regarding the path ahead for Britain and the rest of the globe.

The market being the pricing machine it is, is trying to price the impact of an uncertain event with an uncertain time-frame or outcome. The result of this somewhat premature and random repricing of assets is a lot of volatility and not a lot of direction. The portfolio impacts at this point are also unclear and investors should not run for the exit doors.

In situations like this investors should be glad for the diversifiers their portfolios hold, like Gold and Long-dated Government Bonds to name a few. The uncertainty will continue to provide for these safe-haven asset types. One just has to look at gold relative to world equity markets since the decision was made, to see what I mean.

For those without diversifiers in their portfolio, they have felt the wrath of what has been a very volatile 2016.

The same lessons have been learned many times in the past across almost every investment market.

The chart above (Source: Bloomberg) shows the difference in performance for 2016 year-to-date of world equities, gold in USD and 30 year Treasury bonds. The trajectories have a very clear message. If you were only in equities you were far worse off than a more balanced investor.

Brexit has led to a leadership crisis in the UK and now recently a sudden liquidity crisis in real estate investments. These are things that could not have been foreseen at the onset of the “Leave” victory and there will be many more events as a result of this decision.

I don’t have any more clarity around this situation. For now all that we know is that the British people have voted to leave the EU. The outcome of negotiations with their trade partners in the coming months will be of obvious importance.

In the interim the impact on global growth, global trade, the Pound, the Eurozone and its peripheral members is all very uncertain. South African investors are of course impacted by this global event but again there is no more clarity for us than anyone else.

My guess is that we should expect a lot of volatility and nervous price movements in the coming months. Your investment portfolio should probably be built with a few more “stabilizers” as this movie plays out. If anyone has a concrete set of things to expect going forward they are probably the same crowd that predicted that “Remain” would win the referendum and with that sort of track record you are probably better served ignoring the predictions.

As always we try and build portfolios that can withstand any possible economic environment. Some environments will be less rewarding than others but if you prepare for surprises you are more likely not to be caught out when they occur. The less certainty we have about anything the more prepared we become.

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