When contemplating the investment implications of Brexit, it’s worth considering the probability that it proves to be more significant than just the latest reason to become further concerned about the investment outlook. Clearly, this is the short-term perspective. In the longer term, however, it’s possible that Brexit could be seen as an inflection point in terms of policy strategy to address global economic travails.
Specifically, fears of further populist rebellion could potentially lead governments to implement growth-enhancing fiscal policy instead of leaving the burden to central-bank monetary policy, where the risk/reward arithmetic of zero and negative interest-rate policies looks increasingly tenuous.
Dangerous political cocktail
Because much has been written about Brexit before and after the vote, it’s challenging to add meaningful value to what remains a complicated, difficult-to-handicap political, financial and economic situation.
- First-level post-Brexit thinking is relatively simple and well-understood. Increased uncertainty leads to reduced confidence on the part of consumers and corporations, resulting in lower growth and continuation of deflationary pressures – despite the wall of money thrown at the problem to date – unless something changes
- Second-level thinking recognizes that the Brexit vote is a symptom of lacklustre growth, deflation and protracted stagnation or deteriorating real wage growth, exacerbated by high debt levels and fiscal austerity. One commentator described it as a “dangerous political cocktail, where broad electorate anger in developed economies will be addressed one way or another.”
Global wake-up call?
The key takeaway may well be that Brexit could mark a critical turning point if it acts as a wake-up call to politicians in the U.K. and elsewhere to respond with fiscal stimulus instead of relying on central-bank monetary experiments. How and when are more difficult questions to answer. However, we’ll be monitoring the situation, as even the suggestion of more meaningful fiscal stimulus – particularly if coordinated – could have profound implications for sector rotation, given the potential to arrest and possibly reverse the negative growth/liquidity trap markets are currently experiencing.
At the start of the year, in my blog post “A most welcome market sell-off,” I flagged that we expected volatility to remain elevated, enabling us to put money to work via our time-tested Earnings, Quality and Valuation (EQV) approach. Six months later, I’m certain of few things beyond these:
- The prospect of elevated volatility
- Our team’s readiness to adapt our EQV approach to whatever environment we face