(TNS)—Hold onto your hats. The Dow Jones Industrial Average closed down 611 points Friday on a volatile day as investors worried about what the exit of the United Kingdom from the European Union will mean to the economy and business.
It will take weeks and months for the economic outcomes to show in the U.K. and the rest of the world. Back in the U.S., even average folks with a little money in a 401(k) may be looking for answers to questions such as:
Will stocks fall?
The view now is that stocks are reacting sharply because professional investors never thought British voters would allow the country to leave the European Union. When professionals foresee shocks to the stock market, they change the mix of their investments in advance so they are not hit hard. But in this instance, the pros didn’t see any risk coming, so they didn’t prepare.
Now they are adjusting their investments so they are taking less risk. Given the changes, stock markets are suffering huge movements, but some analysts think that will ease after the pros have made their adjustments. Although the immediate shocks will ease, some analysts expect volatility — or a lot of ups and downs — for the rest of this year, maybe longer. The key: watching for other European countries deciding to vote to leave the European Union too. If others look like they will leave, investors will imagine political turmoil and in the long run a shake-up in trade and possible recession in Europe. The expectation is that investors will be unnerved, so there could be bouts of stock selling.
Will there be a recession in the U.S.?
If there is going to be a recession, it won’t happen immediately. Bank of America Merrill Lynch is predicting a two- to three-quarter recession in the U.K. That doesn’t mean the U.S. will go into a recession. In an interview on CNBC on Friday, former Federal Reserve Chairman Alan Greenspan was asked if he expected a recession. He says he is simply expecting a long period of stagnation — one of the most troubling periods, he says, he’s ever seen.
He envisions companies unsure about the future, and therefore reluctant to invest in their future. The result: sluggish growth. He added, however, that apart from the Brexit vote or European turmoil, the global economy — including the U.S. — already has been weak. He noted the stagnant pay among U.S. workers. The latest events just add strain to a sluggish global economy, according to Greenspan.
What’s at stake for the U.S.?
U.S. companies have had trouble selling abroad for months because the U.S. dollar has been strong. Profits, consequently, have been stunted.
The pressure now is likely to become more intense because the U.S. dollar has become even stronger as the British pound and Europe’s euro have weakened on Brexit fears. “Strong” sounds like a good word, and it can be.
A strong dollar can help U.S. companies that buy items from abroad. But it hurts U.S. companies that want to sell their products to other companies. Now that the pound and euro have become weak, people and businesses in Europe will have to spend more to buy from the U.S. because European money won’t buy as much as it used to.
So American companies could lose some business. This has been showing up in profits of large U.S. companies for some time as the U.S. dollar has become the strongest it’s been in 13 years.
What can cause a recession?
Currently, there is a great amount of uncertainty about the future. When company managers aren’t sure what to expect, they hold on to cash rather than spending it. They may not buy new equipment, build a new factory or distribution center or hire people. They may start layoffs if it looks as if sales might decline.
So as one company loses business, or can’t grow, that company cuts back, and that leads another business to cut back. If individuals lose jobs or fear they will lose their jobs, they cut back.
How can American consumers benefit?
With dollars worth more than they’ve been for a long time, Americans can visit Europe or the U.K., and their money will go further, buying everything from cab rides to restaurant food and hotel rooms.
Anything from Europe will be easier for Americans to afford. The opposite is at stake for U.S. businesses counting on foreign tourists. Hotels in the U.S. could have trouble attracting European travelers because their money will buy less in the U.S. than it used to buy.
They might skip trips to the U.S. Companies such as Tiffany, Coach and Macy’s, which typically have attracted a lot of foreign spending, could see profits shrink.
What other benefits could Americans enjoy?
The expectation is that with the risks of recession in the air, the Federal Reserve may not raise interest rates at all this year. That means that individuals who might be in the mood to buy a home will be able to count on mortgage rates even lower than the low rates that have existed recently.
The Fed doesn’t directly set mortgages, but rates are affected by the Fed and also how investors are feeling about the risks in the world. A key for mortgages is the yield on 10-year Treasury bonds. After the Brexit vote, those yields fell to an ultra-low 1.56 percent — much lower than the recent 1.7 percent.
Yields fall when the bonds are popular, and bonds are very popular now to people worried about the rest of the world. So the housing market could get an additional lift from home buying. But there could be another twist to the trend. To buy homes, people must feel confident about the future. If U.S. companies get jittery amid worries about Europe and lay people off, Americans might hesitate about buying homes or other major purchases.
What investments are risky now?
With concerns about the slowing economy in Europe, so-called “cyclical stocks,” which do well when the economy is strong and slip when the economy weakens, could be the most affected. That would include energy, basic materials, industrial and technology stocks.
Stocks suffering some of the sharpest drops have been financial stocks because of all the financial arrangements between countries that could be disrupted by changes in global relationships as the European Union faces stress.
The issues for banks go beyond direct effects from Brexit and financial arrangements between companies. With many countries in the world worried about recession, the Federal Reserve and its counterparts in Europe are likely to keep interest rates at ultra low levels, and low interest rates are harsh on bank profits.
Although bank stocks have plunged, many analysts have been warning to sit tight for a while because negative news in the world could take the bank stocks down even further. Yet for people who like to go bargain hunting, there was a debate among analysts Friday about whether banks are now cheap enough to buy.
What do investors buy for safety?
Investors worldwide have been buying U.S. Treasury bonds and gold as safe havens. But gold has shot up $60 an ounce to $1,320 lately, making some analysts reluctant about expecting a further increase from here.
Another attraction in a nervous market has been utility stocks and others that pay sizable dividends. But stocks are not as safe as bonds. Analysts have been telling investors to wait a while longer before buying stocks because they are expecting more opportunity to come.
Meanwhile, workers who are in the practice of stashing a little money into 401(k) mutual funds each week can just keep feeding those retirement funds. With retirement years away, you are likely to look back 10 or 20 years from today and not even have a memory of the market dive after the Brexit vote. The stock market climbed almost 200 percent after the 58 percent plunge in the 2008-09 recession and financial crisis.
Gail MarksJarvis is a personal finance columnist for the Chicago Tribune and author of “Saving for Retirement Without Living Like a Pauper or Winning the Lottery.”
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