The U.K. voted to leave the European Union last week in a referendum referred to as "Brexit," triggering a seismic event across global currency, stock, and bond markets. The British pound has fallen over 10% to a 30 year low versus the dollar and stock markets around the world have dropped. No doubt these initial days after the historic vote represent the first of several volatile upcoming trading sessions across capital markets.
Although direct exposure to the U.K.'s stock market represents under 5% of ITC's allocations to stocks, the reverberations of the U.K.'s decision will continue to be felt across all equity markets. The diversification built into ITC client portfolios guards against concentrations in the hardest hit stock markets in western Europe and the sectors hurt the worst so far, namely global banks. In portfolios with fixed income allocations, we utilize foreign bonds. When constructing those allocations, we chose a currency-hedged approach to guard against the type of currency volatility we are witnessing now, so there is no exposure to the pound in our bond allocations.
Most importantly, this vote may exert only a marginal effect on global economic fundamentals, which remain stable but weak. We still live in a slow-growth, low-inflation, low-interest rate environment, characterized by sluggish productivity and investment. Also, it is important to remember that the U.K. never adopted the euro as its currency. Britain maintained a fully functional central bank and control of its own monetary policy throughout its membership of the E.U. The full impact of the "Brexit" will not be known for some time, and it is this uncertainty which is roiling markets.
"Brexit" has been a risk stalking markets in a similar way that plummeting oil prices, the strong dollar, and concerns about China created short-lived volatility back in August 2015 and in January and February this year. For that reason, we again stress the importance of looking through the noise to focus on fundamentals such as corporate earnings and stock market valuation metrics. The market reaction to the "Brexit" may provide windows for rebalancing in global equities once the worst of the initial volatility has passed. As always, we will be watching portfolios to take advantage of performance divergence across asset classes. From this perspective, the market's initial response is likely to create opportunity for patient, long-term investors with cool heads.
We are here for any questions or thoughts over the coming weeks.
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