Equity markets have reacted negatively to the UK’s vote in favour of exiting the European Union. The biggest loser was the financial sector, while defensive stocks like consumer staples and healthcare benefited from a withdrawal to quality, indicate Guy Wagner, Chief Investment Officer at Banque de Luxembourg, and his team, in their monthly analysis, ‘Highlights’.
Equity markets have reacted negatively to the UK’s vote in favour of exiting the European Union. However, after 2 days of losses, the markets stabilised in anticipation of support from the central banks, which are likely to step in to support the financial markets if the negative reaction persists. The biggest loser was the financial sector, while defensive stocks like consumer staples and healthcare benefited from a withdrawal to quality. “Although the Brexit vote has not triggered a general meltdown on the equity markets, it reflects a steady erosion of confidence in public institutions among a large segment of the population”, says Guy Wagner, Chief Investment Officer at Banque de Luxembourg and managing director of the asset management company BLI – Banque de Luxembourg Investments. “If this loss of confidence extends to the central banks, equity markets could correct sharply. Between now and then, given the lack of alternatives, equities could continue to rise despite there being no sign of any improvement in economic fundamentals.” And he continues: “In an environment characterised by prolonged uncertainty, investors usually value quality and visibility. Within equity markets, these attributes are generally not found within sectors that are very cyclical or within the financial sector.”
Federal Reserve and ECB do not change their monetary policy
At the FOMC (the Federal Reserve’s monetary policy committee) meeting in June which took place just a few days before the Brexit referendum, Chairman Janet Yellen left interest rates unchanged given that a vote in favour of the UK’s exit from the European Union could have unfavourable economic and financial consequences worldwide. In Europe, the European Central Bank (ECB) did not react to the result of the British poll. It is continuing to execute its planned programme of buying up debt securities from corporate and public issuers in the eurozone. The Bank of England announced its intention of easing monetary policy during the summer to offset the unfavourable economic and financial effects of the British referendum.
Global economy is continuing to generate stable, moderate growth
In the meantime, the global economy is continuing to generate stable, moderate growth. “In the United States, the economy is being driven by domestic consumption, while corporate investment is weak”, underlines the Luxembourgish economist. In Europe, political uncertainties have not so far led to an economic slowdown; growth is weak but positive. In Japan, the government is delaying the implementation of further stimulus measures despite ongoing economic stagnation. “In China, fiscal stimulus is cushioning the economic slowdown at the cost of adding to the country’s debt.”
Government bonds are playing their role of safe haven despite the weak yields on offer
Bond yields continued to decline in June. Over the month, the 10-year government bond yield dropped in Germany, in Italy, in Spain, and in the United States. Guy Wagner: “With growing political uncertainty, government bonds are playing their role of safe haven despite the weak yields on offer.” Even negative yields do not seem to be putting investors off maintaining or increasing their positions. “As the probability of monetary tightening in the United States is now diminishing, the US yield curve should continue to flatten.”
Source Banque de Luxembourg Investments