It wouldn’t be exaggerated to call 2016 the year of the politically unexpected. That is why global financial markets have been extremely volatile throughout the year and as it has come to an end, we are going to review the most influential political events.
Financial market dynamics have been affected greatly by the decision of UK to leave the European Union and by the election of Donald Trump as US President. Both events are seen as massive blows to the so called ‘establishment’ in the Western world, the full consequences of which will become clear in the years to come.
The first major event to send shock waves through financial markets in 2016 happened in UK, home to one of the world’s largest and most stable FX industries, as well as some of the most esteemed publicly held retail forex brokerages.
British voters took the historic decision to leave the EU on June 23. Volatility heightened before and after the referendum, and eventually GBP marked one of its biggest crushes in history, falling by more than 10% in a matter of seconds. As a result, the Bank of England cut interest rates by 0.25% and restarted quantitative easing, while the USD and other “safe haven” currencies soared. In the last quarter of 2016 “the Cable” slumped furthermore after the UK Prime Minister Theresa May said she will trigger Brexit by the end of March.
Of course, after the outcome of the vote was announced, the stocks of LSE-listed forex brokerages went down. They suffered a lot more serious drawdowns, however, after the FCA announced it is capping leverage to 1:50.
David Cameron lost his battle for Britain, but many fear that this is only the beginning. It seems that the political will to hold it together in Europe is melting away against a backdrop of terrorist attacks and uncontrolled migration from the Middle East and Africa.
Brexit was followed by a referendum in Italy in December, in which voters rejected constitutional reforms and euro skeptics toppled the prime minister Renzi and his government. A rise in the prospects for similar nationalist and populist movements is expected in forthcoming elections in the Netherlands, France and Germany next year. The growing risks for political instability in Europe, as well as the straong dollar, have dragged the euro to 14-year lows below 1.04 dollars in December and it is possible that the single currency hits parity if further shocks follow.
A number of forex brokers hiked margin requirements for financial instruments prior to the Italian referendum – a common risk management strategy, which has been utilized successfully in the Brexit hassle as a precautionary measure against the expected market volatility.
Election of Donald Trump as US President
Amid the uncertainty of the voting outcome which increased market volatility, many brokerages used the same method to mitigate the associated risk for both traders and brokers. Nonetheless, Reuters reported a sharp growth in the trading volume of USD crosses and some other majors up to 10 times annual averages on the day when the elections results were announced.
As expected, financial markets reacted violently to the shocking defeat of Hillary Clinton at the US elections. Right after the announcement of the voting outcome, the Mexican peso plunged by more than 13% against the US dollar to an all-time low. The US dollar also took a battering, but by the time of the London open it has largely recovered. Trump victory sent US stock prices soaring, while some major European stock markets fell, with money flowing into safe haven stocks, such as gold and bitcoin.
The ECB stated that it still expects inflation in the common currency sector to rise by more than 1.0% in Q1 of 2017. The central bank also warned that policy uncertainty in the US due to Donald Trump’s victory in the Presidential election and unstable commodity prices may still place pressure on the global economic recovery that is expected next year.
Indeed, some experts predict that the long-term effects from Trump’s win will be worse. This is the first elected US president with no relevant experience – neither in government, nor in the military. A billionaire real estate developer, Donald Trump represents the triumph of new-wave populism over a comfortable political and financial establishment.
What comes next?
Trump’s historic win, the surprise vote by Britons to leave the EU and the gathering strength of nationalist anti-EU parties across Europe challenges the status quo and portends uncertainty for the global economic order and financial markets. It also keeps investors standing on their toes.
Besides, the latest tendencies in Europe are obviously aimed at over-regulating the industry. It looks as if this new regulatory trend is following the steps of the US, where leverage is capped to 1:50 and binary options are legally traded solely on exchanges, among other restrictions. Ideally such measures should cause therapeutic effect on the markets, but in fact the US retail forex market shrunk after the Dodd-Frank Act, and most brokers moved their business outside the country to more ‘comfortable’ jurisdictions. Does Europe really want to follow suit?