Note on Brexit
We sent the message below to our clients earlier today...
With the global news and stock markets in flux over Britain’s (UK) decision to exit the European Union (a.k.a. “Brexit”), we thought it was important to share our thoughts…
The European Union (EU) was established to better integrate European nations in the aftermath of World War II. EU member nations agree to keep open borders for investment, trade, and immigration.
Yesterday, a majority of UK voters chose to leave the EU in a non-binding referendum. It will take a long time, likely years, to gain full perspective on the importance of yesterday’s vote. And even in the next few months, much remains unclear.
What follows are our immediate reactions, especially with regard to your portfolios.
· Markets hate uncertainty. Right now, there is an abundance of it. Today’s market drop likely exaggerates the bad news.
· Making portfolio changes in the midst of uncertainty is treacherous. Doing so depends on reading a fluid situation and risks letting fear inform your decision.
· Our portfolios definitely have exposure to Europe. About 25-30% of our stock allocation is European. So if your account is 50% equities, then you have about 13% in European stocks. Unfortunately, Friday’s results will not be kind to our clients’ balances.
· Keep in mind a couple issues. The reason we have invested in Europe is the relatively low prices we pay for their stocks. While lower prices clearly don’t eliminate downside risk, they do improve the risk/reward trade-off.
Second, we invest in companies, not countries. Despite European companies producing just as much and their consumers purchasing just as much, they are worth less today than yesterday. In the short term, stock prices have more to do with mass psychology than health of the underlying businesses.
· While today’s stock market moves are dramatic, we are not at 2016 lows. Europe’s stock market is still a few percent higher than it was in mid-February. The U.S. is about 10% higher.
· The UK is less than 4% of global GDP. Compare that to China and the U.S., which are 15% and 25%. The UK is an important, but minor cog in the world economy.
· This is yet more proof of the importance of diversification. Global events are too unpredictable (most experts were wrong on Brexit) to effectively jump in and out of the market. The answer isn’t to try to avoid trouble. It is to diversify so you are never overexposed to the downside of one event.
We hope that this quick note is helpful context for how your portfolios and our decision-making intersect with Brexit. Please feel free to reach out to us if you have any questions or concerns.