Why did the UK Stock Exchange drop and why should you care?

You’d have to be living under a rock not to know that the UK stock exchange and markets around the world took a serious tumble on Friday following the news that the UK had voted for Leave.

Dependent on who you listen to this was either the beginning of a global catastrophe, a blip in the road or in a few cases, a red herring with no real impact at all so I thought I’d take a look under the headline figures and claims to explain what’s really happened so far, why, why it matters and what’s likely to happen next.

What are the markets?

I’d like to apologise in advance to any financial whiz kids reading this for the simplification here and if you have a better way of explaining this I’ll happily update my post.

The Wikipedia definition of the financial markets is:
“A financial market is a market in which people trade financial securities, commodities, and other fungible items of value at low transaction costs and at prices that reflect supply and demand. Securities include stocks and bonds, and commodities include precious metals or agricultural products.”

The key word in this description is people, the performance of the financial markets that politicians love to refer to and blame for the all the worlds financial woes is controlled by the sentiment, judgments and decisions made by human beings whether investors or traders.

Investors are all looking for the same thing, to invest their money in way that delivers a profit whether it’s trading currencies, shares or anything else their objective remains the same and, in common with all human beings, the investors don’t like uncertainty.

For the purpose of this post I’m going to focus on the London Stock Exchange and it’s two primary indexes the FTSE 100 and FTSE 250.

What’s the FTSE 100?

The FTSE 100 is an index composed of the 100 largest companies listed on the London Stock Exchange (LSE). These are often referred to as ‘blue chip’ companies, and the index is seen traditionally as a good indication of the performance of major companies listed in the UK.

What’s the FTSE 250?

The FTSE 250 Index is a capitalisation-weighted index consisting of the 101st to the 350th largest companies listed on the London Stock Exchange.

Why did the UK Stock Exchange drop?

The UK’s vote to leave the EU was a surprise to markets all over the world all of who all thought that the UK would vote to remain in the EU albeit with a small margin.

This meant that as of Thursday evening investors estimations of the values of the UK currency and stocks were based on that assumption, so when the vote went the other way investors rapidly moved to change their positions to take account of the new information and uncertainty.

But the market’s bounced back didn’t they?

This is a case of using selective facts to back up your case as demonstrated beautifully by Suzanne Evans, a leading light in UKIP with her post below.

Suzanne Evans UKIP

Suzanne is using the overall level of the FTSE 100 to imply that there was very little effect to the financial markets or the economy at large which isn’t really true at all. If you take a step back and look at the individual stocks that lost money you’ll see the impact on areas that investors think have the least capability to adapt and the ones with the most exposure in any financial crisis lost value on a huge scale.

FTSE250 Biggest Losers - Friday 24 2016

This chart shows the biggest losers on the FTSE 100 on Friday 24 June 2016, predominantly banks, land owners, builders and airlines.

The chart above shows the biggest losers in the FTSE 100 on Friday and as you can see some companies lost massive amounts of value and the ‘losers’ were focused in banking, landowners, builders and airlines.

I’ll cover the reasons for these stocks losing so much in another, but you can see this wasn’t a small dip that was quickly recovered for these companies.

If you look at the FTSE 250 market overall, which is a much better indication of the health of the UK economy and includes some of the UK’s largest employers you’ll see it had a significantly worse day overall losing 7.19%, again I’ll look into why and who was effected the most in another post, so you can see that this was not a small blip that was well on its way to getting better.

FTSE 250 Market Close - Friday 24 2016

The wider FTSE 250, the 101st to 350th biggest listed companies in the UK took a far bigger hit down 7.19% on Friday 24 June 2016,

OK, but why should I care what the markets do?

Even if you’re retired the markets have a potentially huge impact on you financially as the money in your pension will be invested in the stock markets to grow and cover your pension payments and some of the companies that lost the biggest (builders and banks) are favourites of pension funds as they are normally seen as stable investments with a solid market for their products (houses and financial services) so we’re likely to see that more risk averse funds are likely to have done the worst.

If you’re still working then this could have an even greater impact on you as companies seek to win the confidence back of their investors they will take steps to address the issues that their investors are concerned about. Without an immediate trade agreement with the EU on very positive terms, which is not going to happen, companies have to find there own strategies to deal with this.

What this will mean in practice is that banks will look to ensure their continued access to the European market, and the simplest way of doing that is moving staff and functions abroad to an EU member state that’s unlikely to pull out of the EU like France or Germany. For house builders they can either look to demonstrate they have projects outside of the UK that make up an increasing amount of their overall income or they can cut/mothball the most marginally profitable projects in the UK, hold onto their cash and either sell of the land or build them when the market looks more certain.

If either of these groups follow these steps this will mean job losses in the UK, either from high skilled jobs moving abroad (banking) or fewer projects starting in the UK (construction) and these two are far from the only sectors effected.

It’s also worth knowing that the banks we all love to bash so much matter a huge amount to our economy:

Financial services are a key part of UK exports. Britain has the highest ratio of services exports to GDP in the G7, at 13%. It also has the biggest share of financial services exports by some way, at 29% in 2012. The second is the US at 15%, with Japan exporting the least at 3%.

But we’re the World’s 5th Largest Economy this won’t effect us, right?

Wrong, we we’re the Worlds fifth largest economy by the end of the day on Friday we’d dropped to sixth with France leapfrogging us. Either way it’s not where we appear on a leader board that matters it’s the fundamentals of the economy and right now no-one has any answers and the UK’s two major political parties are tearing themselves apart when they should be focused on getting the negotiations underway formally on exiting the EU.

So what’s going to happen next?

Until there is more certainty about what happens when the UK leaves the EU and more trade deals secured, the sectors most exposed to the UK and who export most to the EU are going to continue to suffer unless they take action to reduce the perceived risks to their business that investors have highlighted.

This means the companies that have lost the most either have to take action or their stocks will continue to struggle and we’re unlikely to see huge leaps in their value unless they individually have market beating results.

So what can I do about it?

Other than pressuring your local MP and making your voice hear loud and clear, which is important right now, you can stay informed and don’t panic. If you understand why the events around you are happening you can better cope with them,t hey don’t hold the same fear for you and you can influence them. For example if we continue to spend money, buy homes and buy British goods and services where we can the ‘real’ economy will continue to hold up which will help maintain UK jobs, support UK business and make us all feel a little better. This will in turn impact the markets as investors will be able to see that, although there is uncertainty, the UK economy is holding up.

If we do panic, stop spending and save significantly more of our income we will almost certainly head for a recession as recessions are caused by exactly this behaviour as if you spend less then businesses earn less so they look to cut their costs (workforce and purchases), more businesses and people have less money and the cycle continues.

What do you think?

I’m writing this blog to try to explain the background to some of the news affecting the UK, why it happens and what we can do about it in as simple terms as I can. If you have a different opinion, constructive criticism or think I’ve missed something please share your knowledge and views, I’m more than happy to be corrected and learn from others.

If you think you could do a better job, even better, I’d love to welcome you on board to write posts too as it’s only by working together that normal people in the UK are going to survive the next couple of years.

If you have a subject you’d like me to write about let me know and I’ll do my best to cover it as soon as possible.

Sources and Further Reading.

In the pursuit of being open and honest I’m trying to the most readable sources that I’ve used as the basis for compiling this article and the facts I’ve quoted. I’m also trying to provide links to further posts on each subject so you can learn more if you want to.

BBC News

The Guardian

The Telegraph




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