Global Stock Market Viewpoints: Second Quarter 2016Submitted by Castlebar Asset Management on July 5th, 2016
The United Kingdom’s (UK) vote to leave the European Union (EU) set off a shock wave across the global political establishment and global financial markets. The outcome of the BREXIT vote was unexpected and global stock markets sold off sharply in the days after the June 23rd referendum. This lead to a shift into conservative investments which caused bond yields to drop to record lows across the world. There are now more than $11.7 trillion in government bonds around the world with negative yields. The US Dollar and Yen strengthened this quarter while the Euro and British Pound declined.
The European markets saw the greatest impact of the UK’s exit vote. Stocks initially rallied into the BREXIT vote as the consensus opinion was that the UK would remain, but as the results moved contrary to expectations the markets turned and the sell off started. The reason for the sell off is because we are now in uncharted territory. There is no roadmap for the UK to follow as they exit the EU. The process has not formally started and won’t until a new Prime Minister starts this fall in London. Once the new PM take office it is expected to take about two years for the series of negotiations to finish and for the exit process to be complete. Companies, in a moment of humility, have openly admitted they have no idea what a BREXIT will mean for their businesses. We have spoken with a range of executives in different industries and most candidly admit they don’t know what the next few years will look like. Sentiment is the UK will see their economic growth impacted in the short term, but again this is just speculation.
Markets hate uncertainly and there is plenty to go around right now in Europe. It is natural to be hesitant given the unclear path forward but European stocks are priced at an attractive valuation relative to the US. The broader European market is trading at 13.7 times forward earnings which is a 17% discount compared to the US. Europe also offers a heftier dividend yield over the US. We are limiting our exposure to financial stocks given the uncertainty but think there are some values to be found in pharmaceuticals, industrials and consumer businesses with a global sales footprint.
Japan was the best performing market in the quarter. Japan’s economic growth continues to be stagnant. The government has postponed a tax increase for next year and the Bank of Japan is expected to get more aggressive with their monetary policy moves. This means they will likely push interest rates further into negative territory. Despite negative interest rates, investors keep buying the Yen. This remains a headwind for exporters but could open the door for Japanese companies to make acquisitions in the places like the UK and Europe where their currency will buy more. We remain neutral on Japan.
Canada, Australia & Asia
Canada remained more resilient than other markets this quarter. The 26% surge in crude prices helped the Canadian market squeeze out a modest gain. The Bank of Canada is expected to remain accommodative in the short and medium term as the companies and consumers adjust to the new levels of energy prices. Australian shares had a modest pull back in the quarter as investors monitored the outcome of their July elections. There is some speculation that Australia may lose their AAA credit rating because of the potential gridlock that results from their election. This will likely be a poor headline but have little impact on their currency or stocks. Asian markets were slightly lower as the BREXIT results caused their markets to sell off near the end of the quarter.
The currency markets saw the biggest reaction after the BREXIT results. The British Pound and Euro were sold aggressive after the vote while the US Dollar and Yen rallied. The volatility around the BREXIT was historic in the British Pound. On June 23rd the Pound hit a six month high and low in the same day as investors retreated once the vote did not go as expected. The Euro fell 2.5% in the quarter and the Pound settled 7.5% lower. The Yen rallied 8.3% in the quarter. Currency markets are likely to remain very volatile through the rest of 2016. As the negotiations start between the UK and the EU I expect to see significant movements in all currencies around the world. The best advice for an American I have is to take a trip to the UK. It is the most reasonable time to visit the UK in a generation with the recent correction in the Pound!
You can read our 2016 First Quarter Global Market Viewpoints here.
Andrew Comstock, CFA
Please contact me at 913-660-0708 or by email to discuss your financial planning and investment management needs. You can sign up for our monthly newsletter here. Follow me on Twitter @CastlebarAM.
Disclaimer: The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results.