06/29/16   Brexit Is Years Away and Might Not Be Bad

Editor’s Corner

Ron Rowland

I am amazed at all the negative press surrounding the recent U.K. referendum vote in favor of leaving the European Union (“EU”). Various observers, many of whom are unfamiliar with British politics, have apparently decided that this decision is a bad one. However, since negotiations haven’t begun, or even been scheduled yet, the details and terms of the exit are completely unknown. I am not an expert on British or European politics, but I do know that proclaiming the outcome as “bad” at this early juncture would be premature.

Markets reacted negatively to the vote for two reasons. First, they were caught off guard because the polls leading up to the vote were in favor of the U.K. remaining in the EU. Second, the EU has been a one-way street since its inception—many nations have been admitted over the years, but no country has ever left before. This combination of a surprise referendum outcome and the uncertainty created by an unknown exit process caused global markets to pull back. The media, and much of the public, seized upon this as an opportunity to panic.

The outcome was essentially a vote against the incessant march toward globalization. The EU was on a path toward centralized government. Brussels has been placing more and more requirements on member states while simultaneously restricting their independence. The EU elite, the bankers and politicians controlling this grand experiment in global politics, recognized the vote for what it was and immediately retreated. The founding member nations of the EU issued a press release stating they will “recognize different levels of ambition amongst member states when it comes to the project of European integration.”

Let that sink in for a while. The EU elite threw in the towel. They backed off their hard stance. They capitulated. The EU understands that it could crumble unless it softens its stance regarding its desire for complete uniformity across the Union. The U.K. referendum was a populist victory and a defeat for the elite. This trend has been building momentum around the world—spanning Europe, crossing the Middle East, and finding support here in the U.S. with the rise of political figures like Bernie Sanders and Donald Trump. Populism is fast becoming the new global political force.

Despite what the media may lead you to believe, Brexit has not happened yet, and the U.K. is still part of the EU. So far, there has only been a nonbinding referendum, and the British government is not required to take any action on any specific timetable. Prime Minister Cameron has indicated he will honor the vote but not lead the country through the process. Therefore, he tendered his resignation, although there is no clear path to identify and elect a successor that is in favor of separation.

Assuming this eventually gets resolved, nothing changes until the U.K. invokes Article 50 of the Lisbon Treaty. Article 50 stipulates that a Member State of the EU must give official notification of its intention to withdraw. Forming a new government and issuing the notification will not occur before the fourth quarter, and 2017 is a distinct possibility.

Once the U.K delivers its notification, the process calls for starting a two-year clock for the U.K. and European Council to negotiate the terms of the exit and obtain approval from the EU bloc. This is key from a couple of perspectives: It reinforces the fact that the terms of the exit are currently unknown, and it establishes a multiyear timetable for negotiating those terms. Implementation of the separation agreement is a completely different matter, and it could span many years, with a gradual phase in of provisions. Therefore, we are probably looking at an implementation of currently unknown provisions that commences in 2019 and extends well into the next decade.

Despite the negative tone regarding the vote, independence is not necessarily a bad thing. In fact, many of the people that seem to be upset by the result are probably fans of independence. Here in the U.S., the 50 states want to keep various rights for themselves and not concede total control to the federal government. For the U.S. to concede much of its independence to Brussels would be bad for the country and intolerable for its residents. Therefore, why is it so hard to come to grips with the citizens of the U.K. wanting to regain their independence?

Investor Heat Map 6/29/16

Utilities climbed from second to recapture the top spot and was one of two sectors gaining momentum during this turbulent week. Real Estate was the other, and it jumped three places higher to grab second. The common denominator across these two trend-bucking categories is that they are the two highest-yielding sectors. Telecom also has an above-average yield, which allowed it to maintain its third-place ranking. Energy, sitting at the top a week ago, has slipped to fourth as oil prices moved back below $50 a barrel. Consumer Staples inched a step higher, making it one of five sectors still posting positive momentum scores. The lower six categories all flipped from green to red this past week. Health Care moved three spots higher to head up this group of laggards, and Materials fell three spots to seventh. Industrials and Technology each slipped a spot, while Consumer Discretionary and Financials continue to bring up the rear.

Mid-Cap Value moved up a notch to claim the top spot, but it is a hollow victory. Its momentum reading is barely on the plus side of zero. The other 10 style categories all succumbed to the downside, although none has posted a truly dangerous score yet. All of the ranking changes favored larger-capitalization categories over the smaller ones. Large-Cap Value jumped from sixth to second, Mega-Cap soared from 10th to fourth, and Large-Cap Blend improved by two spots. Small-Cap Value lost its first-place ranking and is now in third. Small-Cap Blend, Micro-Cap, Mid-Cap Growth, and Small-Cap Growth all slid lower. Large-Cap Growth is on the bottom for a sixth week.

Only three global categories remain in positive trends. Latin America has been on a wild ride that has taken it from first place to last place and back to first place over the past seven weeks. Canada held the top spot during this six-week interval and now resides in second. Emerging Markets maintained its third-place ranking, although both it and Canada are vulnerable to slipping into negative trends. China jumped from 10th to fourth and heads up a near four-way tie with Pacific ex-Japan, Japan, and the U.S. for the middle ground of the rankings. The U.S. put itself in this predicament by slipping from fourth to seventh. The bottom three categories are severely lagging the others and are posting deeply negative momentum scores. The Eurozone sits at the bottom again, indicating it is currently in worse condition than the U.K., which fell four spots to 10th.



The charts above depict both the relative strength and absolute strength of various market sectors, styles, and geographic locations on an intermediate-term basis. Each grouping is sorted (top to bottom) by relative strength. The magnitude of the displayed RSM value is a measure of absolute strength, which is our proprietary method of measuring and reporting the intermediate-term strength as an annualized value.


“The U.K. economy is very important for Germany, especially for its exporters.
It makes sense from a business perspective not to put
undue pressure on Brexit negotiations.”

Michael Heise, chief economist at Allianz SE


© 2016 Dynamic Performance Publishing, Inc. – All Rights Reserved. This material is protected under U.S. copyright law and is provided for the exclusive use of our members for personal purposes. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by Dynamic Performance Publishing or our employees to you should be deemed as personalized investment advice. Any investment recommended in this email should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company. Dynamic Performance Publishing, its affiliates, and clients may hold positions in the recommended securities. Results are not indicative of holdings for clients of Flexible Plan Investments. Forwarding, copying, or otherwise duplicating this information for the use by anyone other than the intended recipient is expressly forbidden. Any retransmission of this material by you is your authorization to us to debit your credit card, or otherwise bill you, for a full price one-year membership for each violation. It may also cause your membership to be revoked without a refund. Any such action on our part does not prevent us from seeking additional legal remedies.