We definitely have an interesting day today. Although I was hoping for Brexit, I thought British were too scared of the Armageddon announced by Cameron and whole ‘Remain’ campaign to actually do it. Ultimately, citizens of the UK showed a lot of common sense and as the first nation in history decided to evacuate from the sinking ship of the undemocratic and insolvent EU. This referendum binds only the UK but it will be remembered as the day the EU has fallen. The implications in both financial and geopolitical sphere are huge.
Geopolitics
Let me start with the fact that the UK is still in the EU. The result of the referendum is, of course, vital but politicians haven’t prepared any procedures for leaving the EU. The main European institutions are going to delay the process and pre-emptively discourage others from leaving. During the incoming negotiations, it will be the UK with the upper hand, neither the European Commission nor the European Parliament.
Assuming that the process of exiting the Union will be handled in a controlled fashion, the most important deals should be done in one year. During this time London is going to write, negotiate and sign trade deals with countries of the EU but also with the rest of the world. Scaremongering tactics talking about trade paralysis are absolutely false. The EU membership doesn’t give you a monopoly in the area of trade and the best example is Switzerland. Swiss without an intervention of any third parties, successfully negotiated great trade agreements with nearly the whole world.
The single most important fact is that the precedent has been set. You can join the EU and when citizens decide to leave its structures it will happen. The Great Britain started the process of the EU collapse. I believe that in just one month other countries are going to start a serious debate about following British footsteps. Counter-intuitively it will not be bankrupts but rather Denmark, Austria, Luxemburg or Finland. Why them?
Countries with very sensible fiscal policy have the most to lose while staying in the EU. The ECB is printing 80 bn EUR each month – this is faster than the FED at its peak. Draghi is doing that to buy junk debt of bankrupted southerners. This is not going to help them but instead, we are going to see the monetary crash with hyperinflation spreading to other countries using the EUR. The sooner particular countries evacuate the better their chance to prevent unintended consequences of the EU policy that can crush the Eurozone.
In my opinion, the fate of the EU has been decided today. The question is whether it should be a controlled transition towards new structures or should it resemble the process of the USSR collapse.
Against popular belief, in my opinion, the United Kingdom is the biggest victor today. It has time for necessary reforms and new trade deals.
China and Russia take respectively 2nd and 3rd place. Geopolitically, these are the countries gaining from the EU collapse. Without the EU, it now is possible to avoid sanctions against Russia and intensify trade exchange with China – the first big steps for the UK. London is strengthening its ties with China notwithstanding protests from Washington. Being one of the founding members of the AIIB, London became the centre for CNY exchange.
Another winner is Turkey with its role drastically gaining both militarily and economically. The decomposition of the European Union will also aggravate problems that NATO is facing for some time now.
The financial tsunami
The Brexit is an event on affecting the world in a similar fashion as the fall of the Soviet Union. For financial markets this event is global. Today the main factor which has to be calculated in is the probability of the whole EU collapsing.
a) Weakening of GBP
Seeing GBP as a currency recording its historical lows I can’t see any investment value in it. GBP was one of the participants in the devaluation race to the bottom. Neither the central bank nor the government has enough gold to reclaim the trust for their currency. What is more, investors are afraid of any problems that can slow down the transformation. In other words, apart from GDP being at its historical lows prospects of this currency surging are low. I don’t own any GBP and I don’t plan to buy any.
b) Weakening of EUR
It wasn’t since yesterday that the thought of EU and Eurozone collapse hit the mainstream. The United Kingdom wasn’t in the Eurozone but if a country can leave the Union what stands in its way of leaving common currency?
The Euro was doomed in 2011 when Mario Draghi decided to get rid of the myth of EUR ‘as strong as Deutsche Mark’. He tried to save southerners with printed press. This move just bought some time while trashing European currency to junk league of modern currencies. Today with mass printing, a huge bubble in government bonds (40% being NIRP) and ailing PIIGS the real scenario to watch out for is the failure of the EUR.
The traditional beneficiaries of any turmoil in financial markets are both gold and CHF which is still seen as a safe haven. Gold is just 10% below its 2011 peaks. Both assets have a big margin for growths but if you want to see huge jumps pay attention to equities of mining companies.
d) Equities
The panic seen in the equity market is something totally normal. Problems can be deepened by rating agencies that will definitely lower their estimates for the UK and many other countries in the EU.
Today two groups of assets are losing the most:
- Banks in the UK due to investors believing there can be transactional issues regarding new trade deals preparation.
- Equities in countries threatened by insolvency: Spain, Greece, Italy. Last few years euro-bankrupts were buying their time with currency printing of the ECB. I already showed you the sheer scale of distortions by comparing interest rates Italy, Portugal and Singapore have to pay on their debt. The EBC by buying junk bonds no one in the right mind would buy, only postponed the inevitable bankruptcy. Since today, investors are seriously considering the fall of the Eurozone and bankruptcies of at least few countries.
Today equities in Spain are attractive. Given that the transformation can still push their prices down by 40% it will be great chance to build your position then.
Summary
Today’s result of the referendum leads to a big earthquake in financial markets. It is going to take some time before it goes away. Finally, the risk of both the EU and the Eurozone collapse has to be considered. In the long-term, it is a development for the better. Also, part of the Eurozone debt may be written off to keep it alive.
We have creditors and debtors on the opposite sides. Write off means losses for creditors. Who has debt? How big is it? Who is insuring it? There are a lot of questions and the lack of answers makes people scared. This fear is clearly seen in equities.
I may be wrong but I believe Brexit is not another ‘Lehman’ moment. For few weeks markets are going to experience volatility after which the FED will cut the rates. Look for the announcement of another round of QE to ‘clean up the British mess’. This will calm the situation in the market for a while. It will buy time until another ___exit.
Me? I am calmly ‘sitting’ in metals, currencies, commodities and Russian equities. Today with a big satisfaction I will capitalise on my options that gained due to weakening pound and the UK equities. Those who participated in the webinar during the weekend know what I’m talking about.