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Navigating Brexit

Gold Shines With Its Biggest 2-Day Gain Since 2011

Braced for Brexit

The Sun is Shining, Even on Fixed Income Indices in Mexico

Rieger Report: U.S. Bond Safety Valve for Brexit Hangover

Navigating Brexit

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Tim Edwards

Managing Director, Index Investment Strategy

S&P Dow Jones Indices

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Despite some warnings from volatility gauges, the market had “priced in” a vote for remain from the UK’s population.  This has made for some dramatic headlines, and large movements since the vote to leave the EU was announced.  As the market scrambled to make sense of the political chaos, three key themes have emerged from the market’s reaction.  

  1. Higher Volatility

The past few days have seen a rapid repricing in European markets, causing volatility to increase.  While volatility tends to rise precipitously, it tends to fall much more gradually.  Moreover, the political crisis triggered in the UK by the Brexit vote, and the general record of the EU in solving difficult negotiations, provides grounds to suppose this time will prove no exception.Pic 1 BrexGiven the general sentiment, it is notable that the UK’s equity market is not far at all from where it was only three months ago, at least, in pound sterling terms.  One reason that the market has held up so well is due to the fall in the value of the British pound: for the large multinationals that make up a significant proportion of the local exchange, a cheaper pound inflates the relative value of their considerable foreign revenues.  The chart above shows a very different picture for investors calculating their returns in a different home currency.

  1. The Pound and the Euro are the battlegrounds

Much of the trading activity around the UK’s referendum and its putative consequence has focused on the pound sterling.  This is both a European and UK crisis; both currencies have come under pressure.  For international investors, the use of currency hedged equity indices can mitigate the volatility of investments that arise from such fluctuations.  As the chart shows, European or U.S. investors in the UK markets could have more or less mimicked the returns of local investors during  the period.  However, those who did not hedge the currency faced material losses:Pic 2 Brex

And in a broader environment where central banks globally continue to face the temptations of a race to debase, currency hedging offers a way to limit the impact of macro-economic policy missteps, too.

  1. Higher Dispersion among Sectors than Countries

Along with volatility, dispersion is also rising.  However, at least for the moment, the changing economic outlook and opportunity set has driven a wider spread of dispersion among sectors than countries.  Wherever they are based, European Financials face the potential for material disruption from a Brexit, while Energy companies and Consumer Staples have so far been largely untroubled.  If this trend were to continue, then the opportunistic investor should calibrate their views to which sectors might benefit, rather than which countries.

Pic 3 Brex

Should I stay or should I go?

Of late, Europe’s political class has maintained a far-from spectacular record in the speedy resolution of crisis.  Faced by a market whipped by political uncertainty and facing an interminable period of months and perhaps years before a definite outcome, investors may be tempted to avoid Europe and the UK altogether.  Indeed, as the recent steep falls demonstrate, many already have.

Those who remain might well prepare for higher volatility, and might consider currency hedged versions of investments where appropriate.  Finally, and despite the seeming importance of national distinctions to current events, so far it has mattered less whether stocks are based in the core, periphery or edge of Europe.  Investors may be wise to keep a closer eye on sectors, than countries.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Gold Shines With Its Biggest 2-Day Gain Since 2011

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Jodie Gunzberg

Managing Director, Head of U.S. Equities

S&P Dow Jones Indices

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According to my colleague, Howard Silverblatt, Senior Index Analyst, “The S&P 500 posted a $317.2 billion fall, after Friday’s $656.9, making the two-day fall $974.2 billion – the third worst on record.  The 2-day point drop of 112.79 was the second worst point drop on record, and on a percentage basis, the 5.37% decline for 2-days is ranked 154.”  Sounds like a bad two days for the stock market and understandably so from the uncertainty of Brexit.

In the meantime, The S&P GSCI Gold Total Return gained 4.9% on Jun. 24-27, 2016, the most in two days since Aug. 8-9, 2011.  It is ranked the 31st biggest 2-day gain out of 7,644 and of these 31 times gold returned this much, the S&P 500 was only positive 10 of the times.  On the other hand, when the S&P 500 lost as much as 5.4% in 2 days in history the average drop was 7.2%, while gold gained 0.4% on average during these down stock market days.

Now may be a good time for gold and gold miners not only for it’s diversification properties but for its ability to hold up to a strengthening dollar and that it is seasonally a good time for gold.  Gold holds up well independently of the stock market. It also rises 32.5 basis points on average for every 1% the dollar rises, even though it rises much more, 3.5% for each 1% the dollar falls. Last, the 3rd quarter is historically the best for gold, gaining 4.7% on average, which is 40 basis points more than the S&P GSCI index in past 3rd quarters.

Source: S&P Dow Jones Indices
Source: S&P Dow Jones Indices.

Here are some thoughts from a recent Bloomberg radio appearance about Brexit on commodities including gold and North Sea Oil. Also here is why the relationship between Scotland and England matters for Brent Oil.

For the inside scoop, and for anyone having trouble tuning in, here are my notes to the radio producer about Brexit on commodities:

1. Fundamentally, it is too early to tell the impact of Brexit on commodities. Basically supply and demand should not change in the short term, but if Great Britain’s independence strengthens their productivity in the long run, the impact should be positive.

Interest rates and the dollar
Two potentially positive impacts on commodities would have been rising interest rates and a falling dollar. However the likelihood of either happening now is less so that is a bad sign for commodities.

Market Risk
Brexit is and may continue to drive market fear that bleeds across risky assets.

When this happens, commodity investors typically pull out since they don’t feel like they are getting compensated for the risk to “sell insurance” in the futures markets. The result is increased volatility and then a drop and open interest which is actually a force to make suppliers pullback that can drive up commodity prices in the long term despite short-term pain.

How to play
Right now the dollar strength and summer are the two key factors for commodities. Luckily the rising dollar doesn’t hurt commodities as much as a falling one helps; however, energy and industrial metals get hurt most. That said, gold, sugar and cattle tend to rise regardless of the dollar direction.
Hot weather in the summer is the other main factor driving commodities right now and q3 is typically best for the asset class. Historically unleaded gasoline, crude oil, precious metals and wheat do best in summer.

This may be time for gold
What is interesting is Brexit may be the cherry on top of the volatility crisis that will drive up gold.  Gold has always been a diversifier, with nearly zero correlation to the stock market and protects nicely. In history when the S&P 500 has fallen more than 10%, gold has gained about 60% of the time rising about 3% per month. Also if stocks fall more like 20% then gold gains more than double returning about 6.5% monthly. This plus its positive performance with the rising dollar and its best quarter coming, could drive it gold higher than in prior index history (gold levels at about $1800) given we haven’t seen an event like Brexit before.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Braced for Brexit

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Fei Mei Chan

Director, Index Investment Strategy

S&P Dow Jones Indices

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To say that global financial markets were surprised by results of the June 23rd Brexit referendum would be an understatement. Most market observers had anticipated a victory for Remain. When the Leave camp won, global financial markets reeled from the shock.

Low volatility strategies are designed to attenuate returns in either direction, and as such, mitigate the effects of days like June 24 and 27. The S&P 500 Low Volatility Index, for example, declined only 1.8% after last Friday and Monday’s tumultuous trading, a 3.5% outperformance compared to the broader S&P 500’s decline of 5.3%. Year-to-date, it is up 7.5% versus S&P 500’s -1.1% return. As the chart below shows, bracing also proved to be prudent across the U.S. market capitalization spectrum and outside the U.S. as well.

braced for brexit2

The posts on this blog are opinions, not advice. Please read our Disclaimers.

The Sun is Shining, Even on Fixed Income Indices in Mexico

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Jaime Merino

Director, Asset Owners Channel

S&P Dow Jones Indices

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When analyzing Mexican fixed income indices during the summer (June 20 to September 20), we have seen trends over the past 15 years. We know that through the years, economic and momentum factors are not the same, and what happened in Mexico last year can’t be compared with what happened 10 years ago.  Instead, let’s focus on how the annualized returns of some fixed income indices have behaved historically during this period of the year.

Exhibit 1 shows the indices analyzed and their reference numbers, and Exhibit 2 shows the results.

Capture

Capture

Historically, we can see that the probability of generating a positive return has been high, with 7 out of 10 indices showing positive returns during the summer 100% of the time.  The S&P/Valmer Mexico Sovereign International UMS Index had the lowest percent of positive returns, at 75%, and the S&P/Valmer Mexico Sovereign 10 Year MBONOS Index and the S&P/Valmer Mexico Sovereign MBONOS Index had negative returns for their first and first two years, respectively.

There are high return expectations for most of the indices.  During the period of June 20 to September 20 from 2001 to 2015, the lowest average return was for the S&P/Valmer Mexico Sovereign 7+ CETES Index, at 6.05%, and the highest average return was for the S&P/Valmer Mexico Sovereign International UMS Index, at 17.23%.  Over the same 15-year period, the sovereign curve, as measured by the S&P/Valmer Mexico Sovereign MBONOS Index, had an average return of 9.71%, a maximum return of 28.53%, and a minimum return of -8.26%.  The sovereign real rate, as measured by the S&P/Valmer Mexico Sovereign Inflation-Linked UDIBONOS Index, had an average return of 13.23%, and the S&P/Valmer Mexico Corporate Index had an average return of 8.66%.  Measuring maximums and minimums, the index with the most dispersion was the S&P/Valmer Mexico Sovereign International UMS Index, with a maximum return of 61.23% and a minimum return of -18.74%, followed by the S&P/Valmer Mexico Sovereign 10 Year MBONOS Index, with a maximum return of 35.55% and a minimum return of -27.62%.

We know that past performance doesn’t guarantee future results, but it can give us a view on how some indices might move.  Stay tuned for the next season report.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Rieger Report: U.S. Bond Safety Valve for Brexit Hangover

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J.R. Rieger

Head of Fixed Income Indices

S&P Dow Jones Indices

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Thursday’s Brexit vote and subsequent market reactions have helped push U.S. bonds higher as investors continue to seek shelter from volatility and the uncertainty of what the future holds for the global economy.

While the S&P 500 Index has seen a decline of over 2.7% in June, the 10 year U.S. Treasury Bond has returned over 2.5% for the month so far as the “risk off” mindset helps push yields lower and bond prices higher.

In the credit markets, U.S. municipal bonds tracked in the  S&P Municipal Bond Index have returned over 1.5% in June as the diversity, yield, historical stability and quality of the municipal bond market has made it a “risk off” destination asset class.  The corporate bonds of the companies in the S&P 500 have also seen positive returns with the S&P 500 Investment Grade Corporate Bond Index returning over 1.25% for June so far.

Table 1: Select indices and their returns through June 24, 2016:

Source: S&P Dow Jones Indices, LLC. Data as of June 24, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.
Source: S&P Dow Jones Indices, LLC. Data as of June 24, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.

As a result of the Brexit vote, the financial sector to a beating.  However, the bonds of the financial companies in the U.S. have stayed in positive territory with the S&P 500 Financials Corporate Bond Index returning just under 1% through June while the equity market sector tracked in the S&P 500 Financials (TR) has seen extreme volatility to the down side of more than 6.5%.

Table 2: Select financial sector indices and their returns through June 24, 2016:

Source: S&P Dow Jones Indices, LLC. Data as of June 24, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.
Source: S&P Dow Jones Indices, LLC. Data as of June 24, 2016. Table is provided for illustrative purposes. It is not possible to invest directly in an index. Past performance is no guarantee of future results.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.