On Thursday the British went to the polls to vote in or out of the EU. The outcome was a vote to leave and speculations are now centring on the effects of a Brexit.
Johnny Bo Jakobsen, chief analyst in Nordea Markets, expects the impact on the global economy to be quite moderate.
- The UK economy will obviously be hit the hardest, but even here a deep recession is an unlikely scenario. A mild recession is more likely, driven by uncertainties over the future conditions for the UK corporate sector. Many businesses will still have access to the European single market at least for as long as the negotiations between the UK and the EU are conducted; a process that will almost certainly go on for at least two years.
- In the EU as a whole, heightened uncertainty over the future could cause businesses to hold back on investments and households to tighten their purse strings. So slightly weaker growth is one scenario.
Turbulence and lower activity in investment markets
The Leave vote gives rise to a string of uncertainties, so investment markets will be turbulent today. Equities could move lower across Europe and notably in the UK. And investors will ask themselves: What now? When will the UK leave the EU? What will the future relationship with the EU be? Will David Cameron step down, and will that result in political deadlock?
But for investors it is all about holding on to their investments and adopting a long-term portfolio approach even if the roller coaster ride could get bumpy, says Tine Choi, Nordea's senior strategist. A new upswing can materialise any time.
- Uncertainties are likely to send share prices lower and bond prices higher. On Friday, European equities dropped on average by 10%, but we expect over the next few days it will subsequently resume an uptrend. Still, at Nordea we recommend investors to hold on to their investments. If investors sell now, they could risk selling at lows and missing the upturn, which will no doubt come at some point.
- It's also important to understand that the vote to leave the EU will not have any major impact on the economy long term. The turbulence in the wake of the referendum will be short-lived, and long term a British exit will not decisively influence the direction of equity markets. For one thing because 80% of the biggest UK companies' earnings are generated outside the country and therefore they will benefit from a weaker pound. So Brexit will not send the European economy into recession. Economic data look reasonable and the earnings growth potential of European businesses is still significant.
Investors should therefore stay cool. But Tine Choi also recommends investors to consider increasing their equity portfolios if the downturn after the referendum is significant and continues into the coming week. Partly because existing equity portfolios have lost some value, partly because equities have cheapened without the overall economic outlook for Europe having deteriorated.
Pound hit
The FX market should be monitored closely, too. Especially corporate customers trading with the UK may see an impact on their earnings and costs due to a weaker pound.
With the UK's vote to leave the EU, the pound will come under further pressure. On June 24th pound weakened by 4% against the euro and by almost 7% against the US dollar. Although some correction later on is possible, a more lasting negative effect on the pound is likely. On the other hand, the US dollar will appreciate driven by investors' flight to safe haven, but this trend should reverse in coming months.