It is said that when the drafting of the American Declaration of Independence was completed, Thomas Jefferson was asked of its significance. He replied, “A great event has occurred, of which it is difficult to speak, but impossible to remain silent.” The same could be said of the surprising outcome of the June 23rd British referendum on whether to leave or remain in the European Union. Contrary to the expectations of many, the leavers outnumbered those who voted to remain. This has provoked widespread speculation on whether Brexit is a “great” event, but it is certainly noteworthy. The future is always uncertain, and unknowable, but new questions now revolve around the impact of Brexit and its possible impact on global economies, currencies and markets, and the outlook for interest rates.
The initial impact of the vote on markets was severe and increased concerns that the British exit from the European Union could set off a period of prolonged uncertainty and increased volatility for global economies and markets. It will be years before the full impact will be known. The event is likely to have a dampening effect on global trade and European markets. In Europe some investors initially fled stocks and other assets perceived to be risky and flocked to traditional safe havens such as gold and sound credits. After the vote results were in the pound dropped to a 30 year low against the dollar. Our current perspective is that the stronger dollar will have a negative impact on exports of U.S. multinational corporations but that Brexit will have limited direct impact on the overall U.S. economy and markets. After a two day decline, markets in the U.S. advanced to close at new highs.
The good news is that the U.S. economy is expanding. GDP is the broadest measure of goods and services and was reported to have grown in the first quarter at a seasonally adjusted rate of 1.1% compared with the previously reported rate of 0.8%. Economic growth got off to a slow start in the first quarter, but recent economic reports indicate that the economy grew at the rate of 2.5% to 3.0% in the second quarter just ended with strong support of the consumer sector.
Investors are beginning to focus on earnings to be reported for the second quarter. A modest increase is expected and it will be interesting to hear initial corporate guidance for the year based on the impact of Brexit. Last year earnings growth was impacted by a strong dollar and weakness in oil prices, but most of that is behind us and the U.S. consumer is resilient. We expect that companies will be reporting positive forward earnings guidance.
Central banks around the world have maintained policies of monetary ease in an attempt to stimulate economic growth with the result that interest rates have reached historic lows, even negative in several European countries and Japan. The Fed made its first move off the zero level last December and had provided signals that further increases could be expected this year. But the Fed has returned to its dovish ways and further increases in the Fed Funds rate may be off the table for the rest of this year.
Many are saying the world is in a frightful mess. They cannot remember a time when the world seemed to be facing such an unending series of events that have generated such a high level of uncertainty, anxiety, and frustration. Many say they have lost hope that life will be anything like normal again. But worry, at least in finance, is the process by which the balance of risk and return is eventually resolved in the marketplace. The market, made up of an infinite number of participants, sorts out the risks and potential rewards and “climbs a wall of worries”.
It’s understandable that investors feel that they face a myriad of unsettling events that seem epochal in nature and for which there is no satisfactory solution. Brexit is not one of these. It is a challenge, to be sure, but it is the stuff of which the uncertainties are resolved in the marketplace, as usual, with some winners and some losers. It, like all calamities, if wisely handled, will transform the setbacks into opportunities. It’s our focus to determine how best to prepare for and seize the opportunities that will emerge.
We hope you are having a relaxing, enjoyable summertime, and we thank you for your continuing trust in Whitnell for management of your investment programs.
Note: We have gathered the information contained in this report from sources we believe reliable; however, we do not guarantee the accuracy or completeness of such information. You should not assume that any discussion or information contained in this market commentary serves as the receipt of or as a substitute for personalized investment advice from Whitnell & Co. No part of this publication may be reproduced in any form, or referred to in any other publication, without express written permission.