Investment implications note on Brexit EU Referendum tomorrow

Mark Appleton, SA strategy head at Ashburton Investments.

Nobody knows for sure what the real economic effects of Brexit will be although many economic think tanks suggest that the UK economy would certainly be worse off especially in the shorter term (as will the Eurozone, although the range of outcomes is somewhat less certain here). This event is likely to cause dollops of uncertainty which depletes business confidence and in turn inhibits private sector investment and saps economic vitality. Markets don’t like uncertainty. Investors will likely demand higher risk premiums and that puts downward pressure on risky assets.

So if we do get a “leave” vote on Thursday, 23 June, we can expect the following:

• Weaker global equity markets

o The FTSE would weaken although a lot of companies in this index would benefit from Sterling weakness.
o A weaker Euro stock market although this market already looks “relatively” cheap.
o A weaker US market but not to the same degree as the Eurozone and UK although this market is regarded as “relatively” expensive.

• A weaker Sterling and Euro against the US Dollar with Sterling showing the greatest depreciation.

• Lower yielding US treasuries and German bonds as being the “risk off" destination
of choice.

o European peripheral country bond yield spreads widening on a greater probability of a Euro “break up”.

Of course if the vote is to stay we are likely to witness the opposite of the above, although the moves will probably be somewhat less marked as the probability of “remain” seems to be priced by the market as being higher than “leave”.

So how do we or should we react to events of this nature from an investment perspective?

While we are already risk averse in our positioning, we would be influenced by the extent of market reaction relative to our assessment of value (markets always tend to over-react). If equity markets fell too far we would be looking to add and if they rallied too hard we might look to top the slice. From a currency perspective the same applies. Should the Sterling depreciate markedly beyond our expectations, we would remove our short positions and look to go long. In the event of a hard Sterling bounce we could increase short positions.

From a South African perspective any weakening of the global economic environment or increase in “risk off” sentiment cannot be seen as a positive. Export performance could suffer and the currency would likely become more volatile. As with our offshore positions however, we are relatively cautiously positioned and should markets fall too far or rally too much we would consider further re-balancing.