Taking Stock

Tony Crowell
Tony Crowell

Exit Ramp

The stock market shies away from uncertainty, thus it attracted increasing buying strength last week as polls and prediction markets forecast a vote in Britain to remain within the European Union. This then reversed abruptly when actual returns resulted in a majority voting to “Leave” the EU.

These unexpected events prompted a remarkable switch in stock futures after market hours from over 200 points up on the Dow Industrials to over 700 down. Stock prices tend to gyrate in response to investor and analyst estimates of future corporate earnings. These earnings are unaffected, at least for now, for most U.S. companies, yet the anxieties unleashed by this major economic surprise will blanket their stock prices until valuations and favorable earnings news entices investors back to the buying counters.

Many prominent economists had forecast severe financial eruptions if voters rejected the EU. Political leaders had joined the chorus. Prime Minister Cameron, who had led the fight to “Stay,” resigned in the early morning hours as returns trickled in from counting paper ballots across the United Kingdom.

The impact will be mostly economic, not political. Britain makes up 15 percent of the European Union. No country has ever left the EU so there are no true historical parallels. The EU should be credited with facilitating continuing growth in the European economies despite strains such as the Greek currency issues in recent years.

There are several unknowns. The vote was a referendum and Parliament will have to act in order to implement the withdrawal. The UK never replaced the pound with the Euro, easing one issue, but the EU had removed tariffs and other trade barriers, which will require negotiation in short order to prevent severe declines in vital trade relationships.

Another uncertainty comes from the probable loss of London’s status as a world financial capital. It now rivals New York in importance, partly because of its position as a gateway for trade with the rest of Europe. The finance industry, centered in The City, as London’s version of Wall Street is known, provides lucrative employment, contributing to the skyrocketing prices of London real estate. Many multinational companies have their European headquarters in London and it is quite possible that other cities will compete as replacements.

Our major immediate unknown is the impact on U.S. investors of global financial turmoil. U.S. stock markets took the news relatively calmly, giving up less than they did in the 2015 market selloff, which was triggered by a market crash in China accompanied by plunges in oil prices.

Bank and other financial stocks took the biggest hits this time. Verizon (VZ-$54) actually went up and Waste Management (WM-$63), last week’s recommendation, was almost unchanged. It has a substantial business in the U.S. from new construction, which has been on the rise. Martin Marietta Materials (MLM-$190) also supplies new construction and its stock was up.

ARM Holdings (ARMH-$44), based in the UK at Cambridge, is a leading global developer of advanced microprocessors and related technologies. Its stock gave up less than a point and it is a prospective buy if further weakness in its home market erodes its price.

Britain’s dissatisfaction with its membership in the European Union seems rooted in historical and cultural differences. This reminds me of Groucho Marks’s famous quote, “I don’t want to belong to any club that will accept me as a member.” It was late joining the EU and its economic interests should motivate it to soon reestablish trade relationships that parallel existing arrangements. Provided the U.S. and other industrial nations do not back away from free trade, the immediate damage can be contained. Longer-range restructuring will provide interesting opportunities here and aboard.

Tony Crowell manages stock portfolios for individuals and their trust and retirement accounts with CROWELL•ROBERTS Investment Counsel, a registered investment advisor in Laguna Beach since 1995. [email protected]/949.494.1376/800.697.2622/www.crowellroberts.com

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