Brexit So Far Not Such a Bad ‘Gamble’ After All in Most Marketsby and
Even U.K. stocks are up, but only thanks to the pound’s plunge
Bonds, developing world benefit from search for safety, gains
Britain’s vote to leave the European Union was supposed to be “the gamble of the century,” in the words of David Cameron, then U.K. prime minister.
That may be true, but judging from the reaction so far from the world’s stock, bond and other markets, opting for Brexit wasn’t the past month’s worst wager. The launch of Turkey’s bungled coup clearly holds that distinction.
Here’s a look at what has happened since the June 23 referendum, the day Brexit opponents said would be the end of the world as we knew it.
The MSCI All-Country World Index is up 1.2 percent and trading near its highest valuation in a year. The S&P 500 Index gained 2.9 percent and reached record levels amid speculation that the Federal Reserve will be patient in raising interest rates. Closer to ground zero, the Stoxx Europe 600 Index lost 1.7 percent, just a hair worse than the benchmark’s median four-week return over the past year.
The U.K.’s FTSE 100 Index got a lift from the tumbling pound, recovering from its post-Brexit loss in just four days. It’s now in a bull market and has risen 6.2 percent since the vote, the developed world’s best performance in that period.
That is, of course, only for investments in pounds. In dollar terms, the FTSE 100 has fallen 6 percent. That’s bad news for the foreigners who the Office for National Statistics says own more than half of the U.K. stock market.
As for smaller companies that are more dependent on the economy in Britain, where business activity has shrunk at its fastest pace since the last recession seven years ago, the FTSE 250 Index of mid-caps is down 13 percent in dollar terms.
Over in the U.S., options traders have shaken off their Brexit blues and turned bullish amid aggressive demand for call contracts on the S&P 500 Index.
The Brexit vote spurred investors to opt for the relative safety of sovereign debt, driving yields in Japan, the U.S. and even the U.K. to record lows. Fixed-income securities were also boosted by bets that central banks’ easy-money policies would get even easier, to shield their economies from the Brexit fallout.
Until last year, the Bank of England was expected to follow the Fed in tightening. Now it’s seen as all but certain to cut interest rates on Aug. 4 from a record low 0.5 percent -- futures put the chances at 87 percent, up from 52 percent after July’s BOE meeting -- and possibly even expanding its asset-purchase program for the first time in four years.
Gilts were the big winners, returning about 5 percent in the past month.
In the corporate-bond market, Jack Daniel’s whiskey distiller Brown-Forman Corp. was among companies that braved Europe’s debt markets after a dip in sales around the U.K. vote as issuance quickly rebounded.
Companies were lured back by borrowing costs that fell to a record low as the European Central Bank pledged to backstop the region’s economy with more stimulus if necessary. The average yield investors demand to hold the euro debt of investment-grade companies declined to 0.75 percent on July 21. For speculative-grade firms, the yield slid to 4.2 percent, the least in more than a year.
The pound was, of course, the biggest Brexit loser. Since the vote, it’s the world’s worst-performing major currency against the U.S. dollar, falling 12 percent, a far cry from even coup-battered Turkish lira’s 7 percent, the second worst. The pound touched a 31-year low of $1.2798 on July 6 before bouncing back and then getting hammered again by weak economic data released on Friday.
The pound’s plunge may boost import costs, prompting bets that inflation will rise in the U.K. The cost to protect against price increases exceeding 2 percent in two years is near the two-year high of 229 basis points hit this month and almost double the one-year average of 124.
Brexit flipped perceptions of global political risk upside-down, as Europe’s fracture made countries like Russia and Brazil look relatively stable and safe. As a result, emerging-market bonds and stocks benefited from investors fleeing near-zero and negative interest rates in Europe in search of bigger returns.
Developing world stocks have added $662 billion in value since the June 23 vote, while $10.8 billion rushed into bonds of emerging-market nations, including one week in which inflows were the biggest on record. Yield chasers have even explored the fringe of the emerging world. Dollar bonds of El Salvador and Mongolia handed investors returns of at least 9 percent, the most among 67 peers in a Bloomberg index.
“The combination of high yield and improving growth momentum has worked very well for emerging-market debt and equity,” said Maarten-Jan Bakkum, a senior strategist at NN Investment Partners in The Hague. He favors hard-currency debt in developing countries and stocks in India, Mexico, Colombia and Thailand.