June 24, 2016
I have no doubt the markets will process Brexit over ensuing days and weeks, and there will be additional volatility related to the announcement. But it will take years for Britain to actually exit the EU, plenty of time for businesses and markets to adapt.
Yesterday was a big day for Europe. Several Euro players were selected in the first round of the NBA draft, definitely a record. Oh, and maybe you caught that other tidbit of news â€“ Britain voted to exit the European Union!
Wow! Did the pollsters and market pundits mess up! Last night before the votes were counted, Ladbrokes was offering 4 to 1 that Britain would â€śRemain.â€ť And over the last several days, the pound and stock markets had risen in anticipation.
The S&P 500 climbed around 2% only to give that back and more after the announcement â€“ so far today itâ€™s down 3%.
On the other hand, bond yields are plumbing new lows and on a year to date basis the Total Bond Market Index is up 4.2%. Diversification anyone?
The bottom line is that forecasting markets and political events is no way to invest money. We could see todayâ€™s market reaction forming, almost in slow motion, over the last several months. Investors can get themselves so wrought up about macro events, but in truth, even if you could predict the outcome of an event like the Brexit vote, forecasting the impact on companiesâ€™ fortunes years down the road is a shot in the dark.
Today National Gridâ€™s stock is down 8% and Unilever is down 6%. National Grid is going to be selling power, yes in Britain, but also in places like New England, for many years to come. And Unilever will be selling tooth paste and Ben & Jerryâ€™s ice cream in countries all over the world, whether Britain is the EU or not.
With modest annual dividend increases National Grid will pay me 6% per year on the dividend alone, without any appreciation in the stock â€“ thatâ€™s a 60% return over ten years compared to the 15% cumulative return that a ten year US treasury bond will pay me. Is that 45% additional enough of a margin of safety, enough of a buffer against uncertainty?
Think about it this way. Weâ€™re all very fond of surveying performance tables showing that over the long term â€“ say the last 50 years -- the stock market has produced returns of ~10% on average per year.
But how is it that when people do that they somehow lose all perspective on history? They completely ignore the fact that, in order to earn that ~10%, you had to endure many, many events that make Brexit look somewhat trifling by comparison. That 10% return in equities â€“ that was the compensation for taking the risk.
The fact that our phones are dead silent today puts a big smile on my face, because it tells me that you get it:
The stock market is a device for transferring money from the impatient to the patient!
I have no doubt the markets will process the Brexit development over ensuing days and weeks, and there will be additional volatility related to the announcement. But you should also realize that it will take years for Britain to actually exit the EU, plenty of time for businesses and markets to adapt.
I would also make the point that the Brexit vote is a revolt against centralization as much as globalization. Voters said I am willing to trade with my neighbors, but I want to control my borders and my destiny. This is not an economic disaster.
When things like this happen, I spend less time listening to the talking heads in the news, who were mostly wrong anyway, and instead I go back and read things that count as wisdom. In this type of a situation, there is nothing better than Chapter 8 of Ben Grahamâ€™s book, the Intelligent Investor. Thatâ€™s the chapter entitled, The Investor and Market Fluctuations, which lays out Graham and Buffettâ€™s psychological approach to the markets. Warren Buffett says that this chapter is the single most influential thing he has ever read.
Finally, Iâ€™d like to give you a piece of sage advice. If youâ€™ve been thinking about taking a trip to England, do it now. The pound is at the lowest level versus the dollar since 1985.
Have a great weekend.
Bruce P. Thompson
Thompson Wealth Management, Ltd.