OverRidge Wealth Advisors

6300 Ridglea Place, Suite 1020

Forth Worth, TX 76116

817.738.1451

www.overridge.com

Market Update
(all values as of 08.31.2020)

Stock Indices:

Dow Jones 28,430
S&P 500 3,500
Nasdaq 11,775

Bond Sector Yields:

2 Yr Treasury 0.14%
10 Yr Treasury 0.72%
10 Yr Municipal 0.81%
High Yield 5.38%

YTD Market Returns:

Dow Jones -0.38%
S&P 500 8.34%
Nasdaq 31.24%
MSCI-EAFE -6.23%
MSCI-Europe -7.39%
MSCI-Pacific -4.42%
MSCI-Emg Mkt -1.18%
 
US Agg Bond 6.85%
US Corp Bond 6.94%
US Gov’t Bond 8.09%

Commodity Prices:

Gold 1,973
Silver 28.43
Oil (WTI) 42.82

Currencies:

Dollar / Euro 1.19
Dollar / Pound 1.33
Yen / Dollar 105.37
Dollar / Canadian 0.76
 

brexit blue european union EU flag on broken wall and half great britain flag, vote for united kingdom exit concept

Macro Overview

The British vote to exit the EU was essentially a validation that a disintegration process of the EU is possibly underway, causing destabilization for countries throughout the EU. Britain’s vote may lead to other similar referendums, particularly with the Netherlands and France where populist sentiment is growing.

The British pound fell to a 30-year low versus the U.S. dollar following the outcome of the referendum.

Conversely, the fall in value for the British pound can be beneficial for the country as Britain’s exports become cheaper worldwide and tourism increases as stronger foreign currencies come into the country.

The unraveling of Britain from the EU is not expected to be automatic or immediate and may take years for it to finalize. Britain would need to execute a divorce clause titled Article 50 of the EU agreement in order to move forward with the separation from the EU. Several member EU countries, including the IMF, are eager to have Britain expedite the exit in order to minimize uncertainty.

In the wake of the referendum’s outcome, international equity markets tumbled as uncertainty led the course. U.S. financial markets were incredibly resilient following the days after the British EU vote, with U.S. equity and bond prices all propelling to higher levels.

The Fed’s plan to further increase rates this year took a different course as the repercussions from Britain’s EU vote are expected to lead to slowing economic growth and a sustained low interest rate environment. Some Fed watchers even believe that the Fed may ramp up its stimulus efforts again with lowering rates should the EU and Europe’s economy falter.

Overshadowed by the Brexit news, the U.S. Census Bureau reported data that may help solidify the Fed’s wait to raise rates. Durable goods orders fell 2.2% in May, worse than anticipated. Such data is an indicator of whether inflationary pressures are present and if inconsistent expansion exists in the economy due to less capital spending.

In the midst of the Brexit turmoil, the Federal Reserve announced that 33 selected U.S. banks passed an imposed stress test to see how well they’d perform under severe circumstances, such as high unemployment, recession, and falling asset prices. The stress test revealed that the 33 banks tested had nearly twice the amount of required capital needed, up significantly from the last stress test conducted.

Sources: Eurostat, Bloomberg, Federal Reserve, U.S. Census Bureau

 

Britain’s Relationship With The EU & The Effects Of Brexit – EU Overview

Now that the decision to exit the EU has been made, the next step is to start the actual process. When the EU was initially established after WWII, a clause was inserted into the EU agreement to address any countries that should want to terminate and exit the agreement in the future. The clause is known as Article 50 and the article establishes the balance of power for divorce talks. It also lays down the voting rules for deciding how to part ways and sets a two-year deadline on talks that can only be extended by a unanimous decision of the other 27 EU countries.

While starting the formal break-up process is in the hands of Britain’s Prime Minister, a decision on how and when to end it would not be. Britain’s departing Prime Minister, David Cameron, did not trigger Article 50 and is leaving it to his successor, to the annoyance of those in the EU who want a fast and efficient break. Only the British government can decide when to invoke Article 50 as it is not designed to oust a country from the EU.EU Mapflag

Immigration has been at the root of contention, as Britain’s net migration stood at 333,000 in 2015, the second highest figure on record and more than three times David Cameron’s 2010 pledge to bring the figure down to the tens of thousands. Net immigration from EU countries, particularly central and eastern European member countries, rose rapidly after their accession to the EU in 2004 and more recently when citizens of Bulgaria and Romania acquired the right to work and settle in the UK. Only by leaving the EU can the government reduce the number of EU migrants.

Britain leaving the EU is viewed with different consequences by various people. Some believe that Europe needs Britain more than Britain needs Europe. Britain’s economy is the fifth largest in the world, making Britain’s departure more significant than a smaller less productive EU member. As a comparison, California has the sixth largest economy worldwide.

With a population of over 500 million throughout the 28 EU countries, the United Kingdom represents 12.7% of the EU’s total population, one of the larger components making up the EU. The union was developed as an integral single market through a standardized system of laws that apply to all 28 member countries, thus allowing for the free movement of people, goods, services and capital.

On a global scale, the EU covers over 7% of the world population, made up of distinctive cultures and languages, all sharing the same financial and trade laws. The British approval to exit the EU is the catalyst for the end of European cohesion and symbolic of a rejection of status quo throughout Europe. International companies and multinationals may now be less eager to expand or hire in the UK as the uncertainty of the EU detachment unfolds.

 

 

 

 

Britain was at odds with the EU before, when the euro was introduced to world financial markets in January 1999. The country had then decided not to adopt the single currency and remain with its centuries-established pound. The British pound reached a high for the year versus the U.S. dollar on the day before the referendum vote, in anticipation of a vote to remain in the EU. However, the pound quickly reversed and fell to a 30-year low once the results showed that the vote to leave was intact.

Before the EU, Britain had one of the weakest economies in Europe. Many argue that the EU actually helped propel the UK to one of the largest and strongest economies of the 28-member EU countries. Its annual growth in prosperity has improved from bottom of the league, among the G7 leading economies before it joined the European Economic Community, to top spot in the 43 years after 1973.

For decades, Britain’s debt carried the highest credit ratings while several EU members were rated as junk. Britain has actually added credibility and structure to the EU through its sophisticated and established financial industry. Over the years, London has grown to be recognized as a critical financial center facilitating credit and banking transactions throughout Europe.

Throughout Europe and the international financial markets, London is known as a key financial center, employing tens of thousands of financial industry professionals from banks all over the world. With EU membership in question, several banks are already making preparations to shift employees out of Britain to other EU financial cities such as Dublin, Paris and Frankfurt . The logistical and financial burden may prove to be incredibly costly for both employees and banks once the exodus is set in motion.

Financial industry employees have been migrating between EU countries easily with so-called passporting rights, which allow non-British residents to work and operate in the country. Lawyers advising the financial industry in the EU have warned that the passporting rights they rely on could be partially or entirely abolished depending on the outcome of negotiations over the UK’s exit from the EU.

Britain’s departure also marks the EU losing its biggest military spender, a UN Security Council seat, and the EU’s second biggest economy. With France and German elections approaching next year, both countries are reluctant to expose the deep divisions among their citizens as well as be pressured to institute a similar referendum vote as Britain’s and with a similar outcome.

Sources: Eurostat, europa.eu

Equity Update – Domestic & Global Stock Markets
U.S. stocks fared better than international stocks following Britain’s announcement on leaving the EU. U.S. equity markets were resilient once the surprise of Brexit unfolded, with the S&P 500 Index and the Dow Jones Industrial Index both positive for the year.
Domestic equities are more insulated from global developments and any other major equity markets since American companies generate 70% of the revenues from the United States. Japanese companies generate 50% from within their economy only and European companies generating a mere 49% from Europe only.

 

U.S. equities are considered attractive relative to negative yielding government bonds in Asia and parts of Europe, even as the U.S. 10-year note finished below 1.5% in June. The S&P 500 index currently carries 60% of its stocks with a dividend yield higher than the 10-year treasury bond yield.

The primary British equity index, the FTSE 100, tumbled in June following the Brexit vote. Companies within the index generate about 75% of their revenues outside the U.K., with many maintaining contracts and arrangements with other companies based in other EU countries. Since the actual extraction of Britain from the EU may take years, decisions for capital spending and expansion by European companies may be hindered.

Certain equity sectors are becoming increasingly sensitive to what the presidential candidates are proposing. Concerns lie with those sectors where newly enacted regulatory policy can inhibit growth and profits. Other sectors are being adversely affected by low rates, such as banks whose earnings are hindered by low rates, which limits the amount of profits they can earn as deposits fall and loan rates drop.

The Department of Labor reported that average hourly earnings grew by 2.5% over the past year, thus placing pressure on corporate earnings as wages move up. Many analysts believe that wages will continue to increase as unemployment rates remain below 5%, enticing companies to keep performing workers and paying them more.

Sources: Department of Labor, S&P, Bloomberg

LJCM Macro Indicators

June Macros