Investment managers predict political rhetoric over the next few days could hit markets in the weeks to come following the UK’s decision to leave the European Union.
The UK’s historic referendum sent powerful shockwaves through global capital markets.
Intra-day volatility in sterling, European equities and selected other asset classes has approached or even exceeded that seen during the most turbulent episodes of the global financial crisis.
Here three investment managers reveal what we can expects markets to do next and up until the end of this year.
Next few weeks
Larry Hatheway, group chief economist and head of multi-asset portfolio solutions at GAM, said moving forward, in the near term, he expects above-average volatility to remain a feature of global equity, fixed income, currency and commodity markets.
Mr Hatheway said: “Sharp moves in both directions are possible, but it will be difficult to draw much lasting inference from them. The primary near-term driver of market volatility will be portfolio re-positioning and risk management, not high-conviction fundamentals-based trading.
“Asset prices will also be sensitive to the words and actions of political leaders and policy makers.
Asset prices will also be sensitive to the words and actions of political leaders and policy makers. Larry Hatheway“Over the coming days various governments, international organisations and central bankers will attempt to reassure investors and the broader public that the political and policy-making apparatus can and will address the challenges and risks associated with Brexit.
“But it is also likely, given various latent political tensions unleashed by Brexit, that markets will be occasionally jarred by political rhetoric that provides unpleasant reminders of the enormous challenges that lie ahead for Britain, Europe and their joint relationship.”
Mr Hatheway said central banks will stand behind markets, offering liquidity as needed.
In the event of disorderly markets, Mr Hatheway said central banks may also intervene, potentially in coordinated fashion.
But outright changes in monetary policy – for example, interest rate cuts or stepped-up asset purchases – are likely to be adopted with a lag and only if Brexit and associated market turmoil are judged to warrant a fundamental policy shift, Mr Hatheway said.
In all likelihood, however, Mr Hatheway said Brexit and its uncertainties will lead the Fed to postpone any rate hike until late 2016 or 2017.
He said: “In sum, markets are likely to be volatile and directionless in the near term, making for a challenging environment in which to invest.”
Remainder of 2016
Over the remainder of this year and probably for longer, markets will have to cope with elevated political and economic uncertainty stemming from Brexit.
That applies to the UK as well as to the European Union.
James Dowey, chief investment officer at Neptune Investment Management, said global financial markets during the coming weeks and months may prove to be influenced more by knock-on effects of “Brexit” within the rest of the EU than by news from Britain.
He said: “Will Brexit trigger a contagion effect within the EU, might the viability of the Euro once again be called into question?”
In the UK, prime minister David Cameron’s decision to resign effective October is unusual and a potential source of considerable uncertainty.
It comes after a referendum that exposed significant geographic and socio-economic divisions across the UK, as well as their associated fault lines in Britain’s Conservative and Labour parties.
GAM’s Mr Hatheway said investors may well doubt the ability of a ‘lame duck’ government to adequately address policy priorities for the next several months.
But he said they may also question the ability of the UK to form a strong government over the medium term, one that will have to conduct difficult diplomatic negotiations with the EU and other countries as the UK transitions to a position outside of the EU.
In either case, Mr Hatheway said investors may be unnerved by the potential for a second Scottish independence referendum or increased tensions in Northern Ireland that could also ensue from Brexit.
He said Sterling will remain vulnerable.
With a current account deficit in excess of 5 per cent of GDP, Mr Hatheway said the UK requires steady capital inflows to support sterling.
Mr Hatheway said: “Doubts about the UK’s attractiveness as an economic platform into Europe and the increased risk of a UK recession accompanied by further easing from the Bank of England could still send the pound sharply lower. Valuation alone may not support sterling.
“Europe’s recovery is also at risk. Uncertainty-induced weakness in household or business spending could easily push the eurozone back into stagnation or even recession.
“In that case, the fallout for global equity, credit, emerging and commodity markets could be considerable, harkening back to the pronounced market declines of last August/September or the first quarter of 2016.”
However, Dominic Rossi, global chief investment officer of equities at Fidelity International, said he expected US equities to benefit from the current turmoil and to continue to outperform in the wake of the UK’s decision to leave the EU.
Mr Rossi said: “The rise in European risk premia following the UK’s decision to leave the EU, further strengthens our conviction that US equities will continue to outperform.
“The US economy is showing signs of a rebound in consumption and we feel that the weak earnings environment of the last two years is fading.
“We are concerned about the strength in the US dollar post Brexit, but if anything this will further postpone the next rate hike. We had expected two hikes this year, now we think there is likely to be one at the most.
“We see political risk, and the forthcoming presidential election, as the greatest threat to the US stock market. Once we are past this event we think the US market will focus on earnings growth in 2017.”
