Vanguard leaders discuss the impact of the U.K.’s decision to leave the EU

Vanguard Chief European Economist Peter Westaway and Jonathan Lemco of Vanguard Investment Strategy Group discuss the impact the United Kingdom’s decision to leave the European Union could have on the global economy.


Rebecca Katz: Well, tell us a little bit about, you know, maybe for some viewers who may not be up on Brexit, it’s really the vote to stay or to leave the European Union. But what are the implications of that? I’ve heard things like it could be really devastating for the U.K. GDP. It could have big implications for our markets here in the U.S. Where does the truth lie?

Peter Westaway: Yes. I mean I think, you’re right. First of all, let’s just think about what the impact could be for the U.K. economy. I think most of the kind of expert economic opinion is that on balance it’s probably going to be either mildly or strongly negative. And the main reason for that is around the trade implications. Because at the moment the U.K. is part of the European single market, they get favorable trade relationships with their European partners, which is almost half of their trade. And so I think to lose that favorable access could be quite harmful. It’s possible, and this is what the exit camp would argue, that they will be then able to stimulate trade with other regions—China, emerging markets, even the U.S. But the case for that it’s quite a nuanced argument there. The second problem is foreign direct investment. A lot of that comes into the U.K. precisely because we’re part of the single market. And so it’s possible that some of that won’t come in. So all of these are reasons why, I think, in the long run could be lower. Still very uncertain, but what’s absolutely certain is that if we did leave the U.K., if we did leave the E.U., there’d be a long period of uncertainty. And that’s the thing that markets hate. That uncertain environment is the reason why markets are so nervy. And it’s not just about the U.K. economy because, let’s face it, the U.K. isn’t large enough in the global economy to make that much difference, but it’s some of the knock-on consequences. In particular, I think many people feel, and I would agree, that if the U.K. were to leave the E.U., it might open the door for some other countries in Europe who are mildly or strongly Eurosceptic. And once that’s started, we could have a rerun of the sort of turmoil we had during the sovereign debt crisis a few years ago. And we know that even though that started in Europe, it then radiated out into developed markets, into the U.S. and so on. So it will be nice to think this problem will be confined to the U.K., but I think at the moment the markets are seeing it very much as a global risk event. And, you know, it’s not just the markets. The IMF have come out and said this is something that’s worrying them.

Jonathan Lemco: Polls are very mixed though. Today alone, for example, we saw two competing polls—one showing the leave slightly ahead, one showing the stay slightly ahead. The markets I have a perception at the moment that the stay is going to win. However valid that is, that’s the perception. And so we saw a bit of a rally yesterday, a substantial one actually, and a more modest one today, but it’s making everyone very nervous and it’s overwhelming every other issue that we’re dealing with on the international side.

Peter Westaway: And people are very skeptical about opinion polls at the moment because of the recent experience that we had in the U.K. over the general election, over our Scottish referendums, Scottish independence referendum. In both of those cases, there was a relatively late last-minute swing back to the status quo. So I think a large reason why the remain camp is still in the lead in terms of betting markets and in the market view is this, whether it’s an expectation or a hope, that that’s the way voters will move. But this is completely new territory. We’ve never had a vote like this before.

Rebecca Katz: So we actually had question from William in Lake Pleasant, New York, who said, “What are the chances that Brexit is a nonevent?” So if you choose to stay, does it have any implications for the global markets or everything just goes back to normal?

Peter Westaway: Yes, somebody was saying the other day, “Is this going to be another Y2K that everyone got very excited about it and then when it happened, it just, you know, we forgot about it?” No, I don’t think there is much chance of it being a nonevent simply because we’ve already seen big market movement. I mean sterling alone has fallen the best part of 10% since the start of the year. And I would see it more as a fork in the road. And if there’s a vote to remain, I think the market will probably rally, and if there’s a vote to leave, I think the market generally will weaken, which for an investor that makes life pretty tricky. And certainly the advice we’ve been giving investors in the U.K. and more generally is, “Don’t try and be too clever and do things radical with your portfolio to try and get around this risk.” It’s much better to sort of look longer-term because— And it’s a good example of why investing globally, having a globally diversified portfolio is really useful. Those investors in the U.K. who have just got U.K. assets are now really regretting that.

Rebecca Katz: Well, I could see the flip, you know, a similar issue for U.S. investors who may be worried. “Oh, I did diversify and now I have exposure to this.” Would our advice be similar to that we’re giving the U.K. investors; sort of hold the course?

Jonathan Lemco: My advice is exactly the same, I think. There’s always something going to be going on in the world that’s a positive and something else that’s a negative. And there’ll be a war somewhere that may affect what we do. There’ll be some political change. Growth numbers may change radically in a particular country. There’s all kinds of events at any one time can affect a particular country, a particular credit. So as a result, as Peter said, if you are broadly diversified, if you have a long-term focus, you’re probably in the best position to succeed. I know many of you in the audience have heard this before, but time and time again, this seems to come through. Friday is likely to be a very volatile day. I have no idea which way it’s going to go. Much will depend, I think, on the result. But that being said, the U.K., as important as it is, comprises one relatively small part of our broader portfolios. And so its impact will, in turn, likely be muted.

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