On Friday morning last week, Alan Greenspan, the typically unruffled former chairman of the Federal Reserve, declared the Brexit vote “the worst period I recall since I’ve been in public service”—the 1987 crash included. A prominent London-based trader fretted: “this is as big as 2008 and has the potential to be even bigger.”
These dire predictions came against the backdrop of falling markets world-wide. The day the Brexit result was announced, Japan’s Nikkei dropped 8%, but it recovered 4% this week. France’s CAC fell 10% in the first two trading days but is up 5% since Monday. In the U.S., the S&P 500 lost 5% in two days but has rebounded 3%. The Nasdaq Composite shed 6% by Monday’s close, only to regain 4%. The declines might seem dramatic, but the past week of trading simply puts the US markets back where they were three months ago.
Investors would do well to recall market overreactions from the recent past. During the 2013 taper tantrum, the S&P 500 dropped nearly 5% and then recovered the entire amount in 10 trading days. The China growth crisis at the beginning of this year caused the Dow Jones Industrial Average to fall more than 11%, followed by a full recovery within seven weeks. The Greek debt referendum in 2015 caused an almost 12% pullback in the Nasdaq Composite, which recovered in nine weeks.
In the wake of Britain’s vote to leave the EU, there is good reason for measured optimism. A business trip that took me to China, New Zealand and Australia earlier this month led to some surprising findings. While Brexit was top of mind at every meeting, and the prevailing wisdom was that the United Kingdom would stick by the EU, there was also a palpable excitement that an exit vote could open doors to new trade with an independent Britain.
The promise of the European Union was in part increased trading among members of the bloc. However, British dependence on trade with the EU is at a record low and falling. The proportion of UK exports headed to the EU has dropped to roughly 45% in 2014 from 55% in 1999. Exports of goods and services to countries outside of Europe have risen steadily.
After Brexit there is good reason to believe that the UK will have the leverage to expand on this trend. Over the next two years, the timeline for EU withdrawal, Britain has an opportunity to become a trading magnet for countries in the EU and beyond. An independent UK will be free of the fiscal and regulatory costs of the EU and could cut or even eliminate tariffs while developing a new, vastly simplified regulatory approach. The strategy has been set with this referendum. Now the focus should be on executing the strategy to move new trade agreements forward.
Success could embolden the EU to take a similar tack to ensure that it remains competitive and maximizes trading opportunities for its members. This is an opportunity for the EU and UK to set a new global trading standard. While many observers are focused on the isolationist political views of those who voted in favor of exit, the ultimate result could be the opposite: a model for free trade in the 21st century that is embraced by the UK and across Europe.
Positive global tailwinds will help the UK negotiate its new reality: Markets are resilient. Most developed economies are growing, albeit modestly. Less-developed countries have grown to nearly half of world trade in 2012 from a third in 2000. Free trade is on the right side of history. Britain’s longstanding relationships and strong trading record will not be easily broken. None of this guarantees success, and an independent UK may fail to achieve these possibilities. But smart investors shouldn’t discount Britain’s chances.
One thing to expect, regardless of the long-term outcome, is continued short-term market volatility. But this should not be cause for panic. Markets have absorbed the shock of the Brexit vote extremely well. While prices have dropped, liquidity is strong. On Friday trading volume spiked to two times normal on Nasdaq’s Copenhagen and US equity markets, and to 10 times normal on our US Treasury market. These signs of resilience should raise confidence in the health of the markets—and the prospects for enduring strength as this uncertainty is sorted out. The Brexit vote thrusts markets into uncharted waters. No one can say with certainty how this unprecedented move will ultimately play out. But let’s acknowledge that a newly independent UK has an opportunity to achieve a positive outcome for itself and broader
Europe.