Yesterday’s vote in Great Britain has created turmoil in financial markets and is front and center in today’s news. For investors, headlines like “Markets Crash,” “Investors Shaken,” and “Dow Industrials Plunge” are alarming, to say the least. At times like these, it’s important to remember sound investment practices, and that although the specific circumstances may be unique, market volatility is perfectly normal and expected.
“We’re all connected, and nowhere is this more evident than in financial markets.”
First, a quick look at the numbers. U.S. Stocks are down about 3% as I write this. Moreover, U.S. stocks are very close to break-even since the start of the year. They were down much more in January, yet quickly recovered. The news out of Europe is clearly significant, but at least in the U.S., the drop in stocks has been fairly modest — and hardly a disaster.
A large part of the reason for the sizable swings in many markets — notably the overnight 10% drop in the British Pound — is that Britain’s exit from the European Union was mostly unexpected. Investors and markets had been anticipating that Britain would remain in the Union. As I’ve said so many times before, markets hate uncertainty and surprises, and there’s a lot to digest in a major change like this. In the presence of uncertainty, investors tend to sell first and ask questions later. Thus, as more becomes known, the intensity if the initial reaction and shock is likely to abate over time.
Another important concept to remember is that there is always uncertainty, and predicting the future is fraught with difficulty. Even more challenging is trying to outguess millions of other investors who are simultaneously assessing and adapting to evolving circumstances. Given that the future short-term direction of market prices is unpredictable, it behooves us rather to focus on what we can control.
Here’s some of what we can control and stay grounded in. We prepare for expected stock market volatility by holding bonds and cash sufficient to last through stock market declines, which can last 3-5 years or more in extreme cases. We don’t react to events, because once the news is out, the damage has usually been done. Instead, we look for opportunities, which can take the form of investing cash at lower market prices, rebalancing (selling high and buying low), tax-loss harvesting, and staying focused on the long term. As Warren Buffet has famously said, “Be greedy when others are fearful, and fearful when others are greedy.” We take comfort in the fact that markets rise over time. We remember that volatility is normal, and that timing markets is almost always a loser’s game. Markets move to their own rhythm. Again, we focus on what we can control, which is a lot.
The more concerning aspects of Brexit involve the world’s socio-political climate. Populist views embracing nationalism, protectionism and xenophobia are part of larger social schisms driven by fear, mistrust and blame. Markets “understand” the economic benefits of cooperation. We’re all connected, and nowhere is this more evident than in financial markets.
Clearly, Great Britain will suffer from a falling currency, inflation, massive capital outflows, and reduced investment and confidence. We can hope that separatist sentiment doesn’t spread, but we shouldn’t be surprised if it does. The world is evolving, and traditional systems and ways of thinking are undergoing fundamental stresses and change. Along the way, we can each do our part to encourage and uplift others, while we seek new understanding of the larger forces at work, including our impact on the environment, energy, insights into human nature, technology, and the limits of our understanding of socio-economic models. I’m an optimist. I believe that our basic urges to survive and thrive will drive creative solutions to our complex challenges on a macro level, despite growing pains. Perhaps other nations will learn from the painful lessons Great Britain is now about to face.