Brexit Bombshell

Against the predictions of traders, the UK voted yesterday to leave the European Union.

Last night started calmly as results to the British referendum on EU membership began rolling in, and it appeared trader confidence was well-placed. Shortly after the Brexit vote ended yesterday, an exit poll indicated remain would win. Even the leader of the leave camp quickly conceded.

Not long after that, there were a few bumps as some area results did not seem to jibe with the exit poll. Dow futures popped up 100 points on that first piece of news and faded quickly on the bumps. The 52/48 remain lead started to melt, and all heck broke loose. The rest of the night was pure chaos.

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Here are just a few of the key changes in U.S. markets at the time of this posting:

  • Dow futures are down 575 points (Low -700 points). SP futures are off 3%. NASDAQ is down 3%.
  • The 5-year note is at 0.98%, and the 10-year note is at 1.48%.
  • Gold is up $80. Oil is down $3.

But the reaction in U.S. markets is nothing compared to the rest of the world.

  • The British pound is down 8% versus the U.S. dollar (low-10%). The pound is at its lowest level versus basket of currencies in 30 years.
  • The Japanese Nikkei is down 7.5%. The Japanese market is down due to a flight into the yen, which is driving the yen sharply higher against all currencies, including the dollar. The dollar fell below 100 yen before a slight recovery.
  • German Dax is -7%. France is -8%. Italy and Spain are down 10-11%.
  • UK stocks are down 4.75%.
  • The Prime Minister of the United Kingdom, David Cameron, resigned.

Although we have likely seen the worst of the volatility, this sets the stage for future volatility. Watch for swings as big leveraged funds blow out big losing positions. Remember, they were all betting on remain. Their currency losses will be staggering, and this will force many of them to sell other assets such as stocks and bonds. There will be a few more days of that, and we will see some inexplicable moves.

Volatility will also come from investors, fund managers, etc., as they assess and position for what might come the rest of this year and into next.

A lot of market events get over-hyped and fade almost as soon as they begin. This one will be different because the end game will play out over two years. First, Parliament must approve this non-binding vote. It could reverse the vote, but that would be political suicide. Then will come a two-year period of possible contentious negotiations.

Is This A Game-Changer For The U.S. economy?

I hate to say it because I have been positive on the economy but it might be. Here’s why:

  • Although the actual separation of UK from the EU will not take place for two years and the economic fallout is a big unknown, the markets won’t patiently wait for that to play out. For at least some of the time, the worst fears, including a complete destruction of the EU, will be priced in. This will lead to lower stock prices.
  • The stronger dollar will hurt U.S. earnings, and that will be priced into stocks
  • Lower stock prices will cause big U.S. businesses to pause on any expansion plans if not institute plans to cut costs think jobs.

More possible fallout:

  • The Fed will not tighten this year and possibly longer.
  • U.S. rates will hit new all-time lows.
  • The United States will not fall into a recession but it will enter a prolonged period of no growth.

This starter set of concerns and possible outcomes is what might happen. What I hope happens is the markets recover more quickly and this is a case of extreme over-reaction.

But for the time being, I have to set my hopes to the side. I have no idea where markets will end today and even less of an idea of where they will open on Monday after traders and investors have the weekend to assess the damage. But I do know this will not be dull.

Visit for updates on the Brexit fallout and other economic commentary.

Dwight Johnston is the chief economist of the California and Nevada Credit Union Leagues and president of Dwight Johnston Economics. He is the author of a popular commentary site and is a frequent speaker at credit union board planning sessions and industry conferences.

June 24, 2016

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