Britain voted to leave the EU, marking the beginning of what is being referred to as “Brexit”. Bruce Cooper, Chief Investment Officer at TD Asset Management, talks to Kim Parlee about how the markets are responding to the unprecedented vote. Click here for TDAM’s full report.
This was not expected by the markets.
That's absolutely right.
The majority of people thought that they would vote to remain in the European Union.
And so we're seeing a violent reaction in markets today, probably because this was unexpected.
What was the disconnect, do you think, in terms of why the markets or investors felt one thing versus what actually happened?
Well, this has always been on a bit of a knife edge.
If you looked at the polls, it was always very close.
I think one challenge we're having today is polling is not as accurate as it used to be for a variety of reasons.
And there are also a lot of undecideds.
And I think most people expected that the undecideds would tilt to the remain camp.
And clearly, as it happened, many of the undecideds tilted to leave.
So it was always kind of a volatile situation because of those undecideds.
And they did tilt in a different direction most people expected.
You talk about in your note that came out today that this is unprecedented.
The EU was a place that you went, it wasn't a place that you left.
We talked about this with Grexit, which didn't happen.
And fast forward to today, we've got a very, very large country, an important country, that's part of the EU leaving.
So what should we be paying attention to?
How is this going to happen?
Well, first of all, the details of how this has happened are pretty unclear right now.
There's something called Article 50 of the Lisbon Agreement, which is sort of the formal mechanism for negotiating the UK'S exit from Europe.
And that will play out over the course of years, not months.
Article 50 has a two-year provision.
So that will move at kind of a glacial speed.
And the devil will be in the details.
And they'll try and iron out all sorts of details.
So we don't know how that will go.
But then there's the political dynamics in the UK and elsewhere, and of course, the market dynamics that will play out in realtime and much more rapidly.
It's interesting because if people were to look at Britain and their economy in terms of what it contributes to the global GDP, not huge.
But this isn't really an economic conversation about just them.
This is a much larger conversation.
You talk about in your note about contagion.
And I want to say about political contagion, nationalistic contagion.
Play that out for me.
What do you see here?
I think this is part of a larger trend that we're seeing.
And I think the clearest message that we got from the referendum, from my perspective, was that many people, let's call it 52% of people in the UK, are saying we're not happy with the status quo.
We're not happy with the way things are going.
And we see that same message being communicated in many other countries.
And I think we're seeing it play out in the US election campaign for president, both in terms of Donald Trump, but also in Bernie Sanders.
Obviously, he's not in the race anymore, but his movement was clearly a movement of dissatisfaction with the status quo.
And in Europe, many political parties have seized on this in Italy and Spain and France.
So we've lived in this low-growth environment.
And within that, some people have done better, or in this case, worse than others.
And I think those people that have struggled in this environment are getting a political voice.
And that's manifested itself, in this case, in Brexit.
I know that, to give credit to TD Asset Management, not too long ago, you came out with some work called "The Imbalance Game." And you actually talked about the fact that the EU was not something that was going to be existing in the future.
Is this a step towards that?
Well, it could be one step towards that.
I think in the short-term, the core of Europe will sort of rally around the traditional parties in France and Germany and will try and protect the unification that's going on.
But I think it comes back to that political process we were just talking about.
There are many people in Italy and in France and Spain that aren't happy with the status quo.
And as elections unfold in those countries, I think membership in Europe will be a core question.
In fact, in the Netherlands, there was a poll recently that something like 80% or 90% of Dutch people would like a referendum just like they've had in the UK.
And so as elections come through and the political process unfolds, there will be opportunities for those who are unhappy to express themselves.
Let me ask you, the politics aside, which are fascinating, what does this mean from an investment standpoint?
What is happening to risk assets?
What does this play out in terms of your thesis, which has been lower rates for longer, low growth?
Well, obviously today we get some volatility.
And that's to be expected because the result was surprisingly on the negative side.
But I think from a longer term perspective, the issue centers around global economic growth, I think.
And does this political process we've been talking about lead to economic policies that will move growth potentially even lower than it already is?
Moves against free trade or higher taxes or increased regulation, restrictions on the movement of capital around the world-- all of that is potentially negative from an equity market perspective.
So we can't sit here today and predict that's going to happen.
That will be the result of political decisions that unfold over a very long period of time.
It's something we need to monitor very carefully.
So I think that's the risk is that global growth takes another leg down.
You state in your paper that was out today, too, equity's likely to decline on this, and again, short-term right now.
Currencies, we're seeing a lot of pressure on pound sterling as well as the euro.
And safe haven assets, I mean, gold is surging this morning.
Of course, we're focused on the things that are down the track.
Some things are actually doing well this morning.
You pointed out gold, which is absolutely true.
Government bonds are rallying this morning.
And so one of the key messages we've had is that the range of possible outcomes is wide and diversification is your friend in this environment.
And so even though rates are low, bonds can play an important role in a portfolio providing diversification, stability, modest income.
And on days like this, you're very happy you've got that balanced approach to portfolio construction.
It's funny, you say the range of outcomes are wide.
And it's something you say.
But that is actually such an important thing to keep in mind right now with this environment.
And we've talked about there's a lot of debt in the world, which I think creates risk in and of itself.
We've talked about the political environment.
The economic growth is not great so it's not clear how much earnings are going to grow.
So there are lots of things to be worried about.
And I think that balanced approach and a diversified portfolio is what will help our clients navigate this tough environment.
Two last questions for you.
Central Bank reaction, obviously the Bank of England has come out very clearly saying they're there to help to do what they need to do to support this.
But longer term, I mean, we're already seeing a Fed hike that was thought to maybe happen is not going to.
I think, first of all, all eyes will be on the Fed.
The markets have now totally priced out any potential increase in 2016, which is kind of a follow on to the recent June meeting and the most disappointing jobs number we had for last month.
So one of our themes has been lower for longer.
And that this would be the loosest tightening in Fed history.
Clearly that reinforces that.
And in many cases, we might see central banks around the world try and loosen again.
I mean, the yen is soaring today, which is not something that the Japanese economy needs, for example.
And so I think there will be pressure on some central banks to ease.
Which is not a walk in the park when interest rates are already close to 0. Yeah.
Let me ask you then, final question for Canadians.
We're seeing the loonie moving down quite a bit this morning.
Can you explain just the connection there?
I mean, what is the loonie have to do with Brexit?
I think this is really about a flight to safety and flight to quality.
So in stressful moments in markets, people tend to buy the US dollar.
It's not that they're selling necessarily the Canadian dollar.
They're really trying to buy the US dollar and buy US government bonds.
And so the Canadian dollar falls in sympathy because it's the other side of that trade.
But I think the other point is that if global growth does take another step down-- I'm not saying it will, but it's just saying so we need to monitor-- the Canadian economy tends to have a lot of cyclical exposure, things like energy.
And so global growth, poor global growth would tend to be negative for the Canadian dollar.
And so I think that's a logical reaction we're seeing in the market today.
If people are worried about growth, they're going to sell the Canadian dollar.
The other point I would make for our clients in Canada, we've always said that exposure to the US dollar is a diversifier.
And on difficult days, having some US dollars will cushion that blow.
And so for our clients, they've got a fixed income that's doing well.
In many portfolios, they've got some cash, which is holding in.
They got some US dollars, which are moving up.
So all of this diversification will help cushion the downside on an otherwise difficult day.
Bruce, thanks very much.
Great to be here.