Observations on BREXIT

After a highly contentious and emotional national debate the citizens of the United Kingdom voted to leave the European Union by a slim majority. This decision has become known as “Brexit” for “British exit”. In the time before the vote and then in the few days following, the financial media has placed Brexit as its top story and in fact, it is a historic event. Britain is the first country to decide to leave the 28 country European Union, let alone representing one of the largest economies within the union.

There is a chance that this move could have far reaching long term consequences. There is also a chance that it won’t.

Immediately after the results were made known, the world’s stock markets dropped and interest rates moved even lower as investors raced to leave more risky investments for the safety of government bonds, especially US Treasuries. The 10 year Treasury bond dropped below 1.50% for the first time since August 2012. The British Pound fell to its lowest level in nearly 5 years.

Now, 6 days after the vote, the stock markets have paused their slide and are recovering somewhat and interest rates are holding their position for now.

So, as ordinary investors what is it that we can take away from this episode?

First and foremost, the financial uncertainty we’ve become accustomed to since 2008 will continue. Brexit will play itself out over at least the next two years. In the interim, other member countries may attempt similar referendums to exit and threaten the existence of the EU. It’s likely there will be continual Brexit headlines that may rattle the markets for short periods of time. Of course, this will only add to the list of major global issues that have created a steady stream of news stories on their own such as China, terrorism, weak economic growth, The Fed and other central banks’ monetary policy, the US presidential election, the price of oil and etc.

Most of CDF’s investors are not trading actively in the global markets. Rather they are much more likely to be planning for retirement or a major life event (i.e. buying a house or saving for education). Many are already in retirement and using the earnings from their investments to supplement their income. We believe that our investors appreciate the work we’re doing in the Kingdom as much as the interest rates we pay.

In the face of this continuing uncertainty, it’s important to not overreact. In the case of Brexit, the initial emotional response to the vote will give way to understanding this is a long process and that the UK will likely never be able to separate itself from Europe economically. Life will go on, but in a different political and regulatory structure. In the end, we should discover there are much larger issues to keep focused on that will affect the direction of our individual investment performance.

Second, until its impact is better understood, Brexit will probably tip the scales toward interest rates remaining low for a longer period of time. The economic and political uncertainty that needs to work its way through and the resulting flight to quality for investors combined with generally lukewarm economic growth worldwide should influence the Federal Reserve and other Central Banks to keep interest rates low. In fact, there is an emerging school of thought that believes rates may actually need to decline.

Great if you’re a borrower….not so much if you need to live off of your investment return.

Last, with low interest rates the ‘new normal’ for as long as we can see into the future, investors will continue to be driven toward finding better returns which means they will be driven toward investing in the more volatile stock market. Brexit isn’t responsible for this, it just may help prolong it as we all have been living with this situation since the Federal Reserve implemented its plan to support the economy and employment through the Quantitative Easing program. Keep in mind however, even under the best of circumstances, interest rates are likely to only rise slowly and gradually over a period of years.

Wouldn’t it be great if we could have the peace of mind of receiving a fair rate of return without the fear of the value of our principle declining?

So, we suggest that you consider the following:

• Stay informed on developments around the world but don’t overreact;
• Connect with a qualified investment advisor to help you think through the correct strategy for you that balances risk with return, and;
• Visit our website or give one of our Investor Services representatives a call to compare our products and interest rates with your other options.

Oh yeah… you might also want to book that vacation trip to the UK you’ve thought about while the exchange rate is this favorable!

If we look hard enough, we can always find something positive.