Our next weekly letter may possibly see one fewer European Union member, despite the fact that European political leaders have previously overlooked the results of popular ballots. Alexis Tsipras, for instance, ultimately had to apply the structural reform programme imposed by the country’s creditors and ignore the rejection expressed by its people at the referendum. As the fateful UK Brexit poll approaches at the end of an acrimonious campaign, European markets, unlike their US counterparts, have tipped into an accelerating spiral of pessimism. Digitalisation and ageing populations, along with rampant urbanisation, amid populist trends among developed economies, have certainly become disruptive factors which bear undeniably heavy consequences on traditional economic models. However, since the onset of the super-mediatised ultra-digital era, investors have tended to draw on very short-term potential risk-factors to determine an over pessimistic or sometimes even apocalyptic long-term view, which is then used as self-justification for extreme caution.
As such, a Brexit is being likened to earlier episodes of recent human history experienced during the two world wars, leading to the implosion of Europe and a return to the conflicts regularly waged by the empires and kingdoms which reigned over the continent for a millennium. In the same way as markets assumed that the Greek crisis would undoubtedly bring about the sudden death of the eurozone in 2011, irrational fears have resurged and weighed on sentiment, as is the case ahead of every democratic vote. Investors have reacted by implementing ultra-defensive strategies, switching assets partly towards the bond markets which are on the verge of a meltdown, as an increasing number of sovereign interest rates have dipped into negative territory. 10-year Bund yields fell below the 0% threshold for the first time this week. Instead of paying a price for apparent security, investors will ultimately be obliged to seek yield in other products or regions. Far from wishing to judge or apportion blame on these investors, we should try to understand them in order to seize upon opportunities which arise. One thing is certain, their behaviour is reminiscent of the crises in 2008 and 2000, seeking at all costs to avoid denting their capital, or even recording unrealised losses, albeit temporarily (for a second, a minute, a week, a month, a quarter, a year, etc.).
Most observers, who are currently drawing a parallel with the Great Depression, or the period of secular deflation during the 1930s, are not old enough to have lived through these events. In another classic human error, investors often become prisoners of past trends, which they replicate infinitely. Thus in the 1980s, when inflation was running into double digits, investors could not imagine a world without inflation like today. Now, the exact opposite is true and will lead to a rude awakening if inflation lifts off again, particularly in a negative interest rate environment.
So what is to be done? In the famous words of the English rock group The Clash, UK electors, like investors in the equity markets, the only asset class still offering yield and potential capital gains, must inevitably ask themselves the same question: should I stay or should I go now ?
Igor de Maack, Fund manager and spokesperson at DNCA. This article was finalised in June 17th, 2016.
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