The United Kingdom has shocked the world by deciding to leave the European Union by a narrow margin this last week. Once the news broke, stock markets around the world sold off sharply and the pound dropped to its lowest levels in the past 30 years. This begs the question, what happens next?
In the short-term, not a whole lot. The markets will digest the news and the threat of the unknown could slow down economic growth which already was low across the world. The U.K. now has to decide how to deal with the European Union going forward. There is a model set out by Norway which still has a deeper integration with the E.U. but still involves funding the E.U. and allows the free movement of people which were some of the main reasons the U.K. left in the first place. The other option would be to trade according to the World Trade Organization (WTO) rules, much like how the United States and China interact with Europe. Most economists agree however that this will hurt the overall British economy and slow trade between the two because of the added expense.
Leadership will become incredibly important to navigate this perilous road going forward. Only Greenland has left the European Union before, a country that could not even fill the Rose Bowl with their total population. David Cameron, the British Prime Minister, has already resigned after his failed attempt to keep the country in the European Union. His decision to even hold a referendum has proven to be potentially one of the greatest mistakes in post-war British history and was considered largely unnecessary by most. His Tory party will now have to choose a new leader and it will be imperative to build unity going forward.
The biggest risk is now precedent. Because a major player has left the union, this could leave the door open for others to do the same for various reasons. Europe as a whole is a major economic power, rivaling the U.S., China, and Japan. Individually its member countries are much weaker and subject to more volatility when divided which can hold back growth for the rest of the world. There are already secondary consequences in motion, Scotland is considering leaving the United Kingdom because of the vote, weakening the U.K. even more. Uncertainty is the enemy of growth; most individuals will not invest for the future if they do not trust what is going to happen next.
So, how to invest now?
As big of a deal as the Brexit is, a well put together portfolio does not require dramatic changes to it as a result of what happened. For active managers that try and time the market, they will have to scramble to move assets around and try to predict what will happen next. This will largely be a guessing game and most managers will end up subtracting value as rumors and speculation will increase volatility in the short term. For the investor who has built a plan and built a strategy for the long-term, they should remain confident in what they are doing. The markets will digest the news and companies will move forward. When Obamacare first came into law, there was a fear that healthcare companies couldn’t handle the change and many healthcare related stocks sold off. Eventually, the companies were able to react and it has become one of the best performing sectors over previous years.
The risk is that growth will be lower for the short term and it is important to not take any outsized risks in trying to boost returns. The temptation will be to reach for investments that promise higher returns. We are long into an economic cycle and there will plenty of volatility going forward, especially in non-traditional assets. As always, the most important consideration all investors must watch closely is their asset allocation between stocks and bonds. Being consistent and having a plan will allow you to navigate even the most volatile of markets if built appropriately ahead of time. If you are concerned or would like a review of your current asset allocation, never hesitate to reach out to one of our advisors to make sure you are in the right position to handle whatever comes next.