Brexit and Your Portfolio

Summer 2016

In late June, the United Kingdom voted to leave the European Union. In the days immediately following this event, global markets responded, with the major stock indices ending sharply down. As of the date of this writing, in mid July, the S&P 500 has fully recovered the losses post-Brexit. Below is the email we sent to clients the day after the vote.

While there has been much speculation leading up to and since the vote, many of the longer-term implications of the referendum remain unclear, as the process for negotiating what a U.K. exit may look like is just beginning. The U.K. will have up to two years to negotiate a withdrawal, during which time it remains subject to EU treaties and laws. Any potential operational changes depend on what path the U.K. and EU decide to take.

Our investment philosophy and process have withstood many trying times, and we remain committed to them. Allowing sudden market movements to influence long-term asset allocation is dangerous. Experienced investors recognize that risks and uncertainty are ever-present in markets.

A drop in prices is generally due to lower expectations of cash flows, higher discount rates, or both. In some cases, a drop is also due to investors demanding liquidity. In the current situation, some investors and economists may expect lower cash flows due to possible trade barriers (that may not ever be implemented). Higher discount rates may be occurring due to uncertainty about changes in the economic landscape and regulations. We have seen markets increase discount rates in times of uncertainty before, resulting in lower prices and increased expected returns. However, it is difficult to know when good outcomes will materialize in the future. By attempting to time the right moment to invest or redeem, one risks not enjoying the potential benefits. Many of those who exit the markets miss the recoveries. History shows that investors who remained in well-diversified portfolios were rewarded over time.

The traders at mutual fund Dimensional Fund Advisors have nearly 35 years of experience managing portfolios; this includes many periods of uncertainty and heightened volatility. Market events are monitored very closely—including their impact on trading and trade settlement—and new information (as well as its implications) is considered as it comes to light. The market mechanisms are being closely watched, and they appear to be functioning well.

We remain committed to helping our clients have a good investment experience. As we wrote last summer during the Greek debt crisis and the Chinese stock market selloff:

We continue to emphasize the importance of broad diversification within and across asset classes as a consistent way to pursue the expected return premiums associated with different asset classes. As a result of our diversified approach to equity investing, exposure to any single Greek or Chinese stock is very limited, as is the overall exposure to each country.
Like you, we do not know what the future holds. Capital markets incorporate all known information and associated expectations, and the widespread anxiety is already reflected in prices. Our disciplined investment processes, the flexibility of our approach, and the quality of our investment team position us well to continue to manage portfolios in the best interests of our clients.

As always, please let me know if you have any questions or concerns about your financial situation.