The result of the Brexit vote on June 23rd overshadowed most other events during this past quarter as the world digested the unexpected win of the leave campaign. Complacency seemed to be pervasive everywhere as not even the leave side expected to win; no one had made any plans if the voters chose to exit the EU.
Not surprisingly, world stock markets, along with the British Pound, fell and gold rallied from the shock and uncertainty of the leave vote. Despite the drop in the markets at the end of June, Canadian, US and emerging markets stocks finished up on the quarter, however, international equities were not so optimistic and finished down.
As the UK and EU head into unchartered waters, we expect there will be periods of increased volatility going forward. On September 5th, the British Parliament is scheduled to debate a petition, which gathered over 4 million signatures, to annul the Brexit referendum results and to hold a second one. While this in no way indicates there will be another referendum, it’s anyone’s guess what potential can of worms this could open up. Still, the amount of uncertainty surrounding the Brexit process couldn’t be greater: how will Theresa May handle Scotland and Northern Ireland, both of whom want to stay in the EU; when will Article 50 be triggered; will the UK be able to negotiate a deal that still gives them access to free trade with the EU while gaining tighter control on immigration?
In the US last quarter, the Fed was contemplating raising rates in June, however this did not happen after disappointing economic news. The prospect of any potential rate hikes this year has almost diminished in part thanks to the ripple effects of Brexit.
Canada – The Q1 rally continued into Q2 and there are currently no signs of it stalling. We expect that small cap equities will continue their momentum and lead the way after an almost 18% gain in Q2, on top of the 8.5% gain in Q1; value continued to be strong except its momentum slowed down. We continue to have a positive outlook; however, we will be watching the price of oil given its high correlation to the Canadian market.
United States – Since late 2014, the US equity market had stalled and settled into a trading range. A breakout to new highs at the beginning of Q3 may be an indication of the tide turning, however, such a breakout doesn’t mean markets will actually begin a new rally upwards. We are wary that some potentially bad news could quickly derail the rally, specifically from Europe’s banking sector.
International & Emerging – International equities have posted a second negative quarter this year and this trend is likely to continue. Despite a positive start to Q3, we feel there is a lot of uncertainty, mainly stemming from Europe: UK – Brexit will remain a source of uncertainty for the foreseeable future. Italy – There is growing concern about an Italian banking crisis as banks are saddled with €360bn in bad debt. Germany – Deutsche Bank is in trouble and has been labelled the greatest threat to the global financial system by the IMF. Any crisis will no doubt reverberate throughout world markets.
Real Estate – Canadian REITs continued to shine this quarter, posting a 9.6% gain and bringing the year to date return to 21.3%. Global REITs showed more strength this quarter compared to the beginning of the year; the S&P Developed REIT Index advanced 5.4% in Q2 compared to an almost flat Q1 of -0.4%. We believe the rally will continue but will closely monitor for any signs of risk from international markets. Fixed Income – Bonds continued to post modest gains this past quarter with short term gaining 0.65% and intermediate up 2.62%. Each quarter seems to bring more news that central banks keep kicking the can down the road on raising rates; economic news and events continue to contribute to uninspiring global economic growth and investors continue to flock to government bonds pushing up prices and yields down, even into negative territory in some cases.