Below I include a recent note on Brexit from our new head of the Demography Sector, Neil Howe. If you missed Neil's official launch presentation last week, I highly encourage you to review his video presentation. Neil is an all-star in the demography arena and we're excited about how his work will enhance our Macro team's research. If you'd like to learn more about Neil and his research please contact .
While my opinion (see research) remains that Brexit will not prevail at this Thursday’s vote – note that recent polls are swinging towards this opinion — it remains an incredibly close vote and Neil’s commentary offers insightful context to this most historic vote.
-Matthew Hedrick
"Patriotism is a strong nationalistic feeling for a country whose borders and whose legitimacy and whose ethnic composition is taken for granted."
--Michael Ignatieff
The ghastly murder of MP Jo Cox midday last Thursday by a deranged Brexit supporter triggered a revulsion rally for the Remain camp later that afternoon and Friday. The steep UK market declines earlier in the week were reversed in a sudden bounce. During the last 12 trading hours of the week, the £/$ surged (from $1.41 to $1.44) and the FTSE100 gained just over 2%. Meanwhile, Betfair odds in favor of Brexit, which peaked at 41% midday on Thursday, plummeted to 35% on Friday--and still further to a volatile 28`% by Sunday evening. In early Monday Asia trading, the pound soared to $1.46.
Possible drivers behind the falling Brexit odds: New polls showing the Remain side gaining on the Brexiteers; forecasts for gorgeous weather next Thursday; and the Remain endorsement by the Daily Mail.
These are all substantive drivers. But they don't justify a turnaround of this magnitude. The markets--and specifically the oddsmakers who are driving the markest--have gone too far.
Yes, the pro-Brexit margin in the polls is down somewhat since early last week. But even the new weekend polls show the two sides in basically a dead heat. Take a look at the following list of polls compiled by ft.com, and you will be hard pressed to detect much of a swing.
The bigger question is why the Brexit camp has made such substantial gains over a longer two- or three-month time frame. A month ago, I predicted on Hedgeye TV (on the basis of other Eurosceptic votes in the EU) that a rise in the pro-Brexit camp would come mainly from a pro-Brexit shift in young voters. That's exactly what's been happening. Back in April and May, according to the prestigious ICM poll, Britons under age 35 were pro-Remain by 27-to-30 percentage points. In ICM's latest (June 10-13) poll, that margin has shrunk to 14 percentage points. Though youth overall remain firmly in the Remain camp, a fall in the pro-Remain youth margin has played a major in pushing the pro-Brexit trend since early May.
Interestingly, the demographic profile of a UK Brexiteer is strikingly similar to that of a US Trumpista: Disproportionately white, rural, working class, distrustful of large political and business institutions, and somewhere between age 45 and 65. Support for both causes falls slightly over age age 65 and dramatically under age 35.
But let's return to the last few days and the dimming oddsmakers' outlook for Brexit. Weather? Yes, good weather favors the Remain camp. But that's because the Remain voters just don't care as much. Everyone acknowledges that the Brexit voters are vastly more motivated and would walk over hot coals to cast their vote. The Remain voters are more like "Meh, I suppose we should stay." This has to be a plus for Brexit--since we really aren't sure if all the Remain supporters will show up to vote even on a sunny day.
As for op-eds, Murdoch's The Sun (with the largest circulation of any UK newspaper) just announced for Brexit--joining the Daily Telegraph and the Daily Express. And even many of those backing Remain (such the Daily Mail and The Times) sound almost apologetic about their stand--unlike the Brexit op-eds, which brim with conviction. While backing Remain, for example, The Times admitted that the EU leadership is "undemocratic, meddling, and short-sighted" and is not "truly listening or open to reform." But yeah, well, we should stay in anyway.
What makes all the polls hard to interpret is that the two campaigns are appealing to entirely different regions of the voter's brain. The Remain arguments are all about bean counting, cost-benefit analysis, and losing maybe a percent of GDP. If they rouse any feelings at all among voters, it's the dreary anxiety (per Chancellor George Osborne) that their wages may rise less and their taxes may rise more. The Brexit arguments, on the other hand, are passionate appeals about regaining national sovereignty. Once you hook voters with that, the Remain arguments become irrelevant. To preserve our nation, who cares what the costs are? It's Winston Churchill time. It's "fight them on the beaches" time.
It's head versus heart, left brain versus right brain.
This stark asymmetry in motivation may again work in Brexit's favor. The very fact that the financial media and multilateral organizations (from the FT and Economist to the IMF and World Bank) tirelessly lobby for Remain feeds the nationalist flame of the working-class Brexit supporter. As do the endless and condescending exhortations by foreign leaders, from Barack Obama to Francois Hollande. French Economic Minister Emmanuel Macro just declared that Brexit would "make the UK about as significant in the world as the Isle of Guernsey." Touché! I'm sure that will get many a John Bull to ponder and reconsider.
The Telegraph's Ambrose Evans-Pritchard, a celebrated financial journalist who is exquisitely informed about the economic costs of Brexit, came out in favor of Brexit last Thursday with a telling headline: "Brexit vote is about the supremacy of Parliament and nothing else: Why I am voting to leave the EU."
Oddsmakers continue to favor Remain because (they say) voters tend to shy away from big risky innovations when they actually vote. Brexit would need a sizeable lead in the polls in order to just squeak by on decision day: Witness the referendum on Scotland or the various succession votes on Quebec. But these may not constitute valid comparisons. Scotland and Quebec were integral parts of their respective nations for centuries before these votes. Independence really would have been a step forward into the unknown. The European Union, on the other hand, is only 24 years old (since the Maastricht Treaty), and most Britons have never felt any social or cultural connection to its Brussels- and Strasbourg-based leadership. Brexit can be plausibly billed as a step backward into the known.
As intermediaries, of course, oddsmakers can't just choose the odds on their own. They need to adjust the odds in response to the demand for bets on both sides. And by all accounts, the bets are as asymmetrical as the voters: Individuals making small bets are largely pro-Brexit; institutions making big bets are largely pro-Remain. And since the markets are responding to these odds, it is possible that some institutions may be flooding the bookies with bets not to win the payout on voting day, but to influence markets before voting day. Quite simply, nothing about the coming vote is certain. If oddsmakers are getting pushed around by investors not out to win the bet, then all we get is noise. Even if they are all out to win the bet, the best they can do is look at the pollsters. Yet these pollsters themselves failed miserably in their last test in 2015--when they were blindsided by the scale of the Tory victory.
Our Keith McCullough calls the Brexit vote a coin-flip--and no one wants to trade on that. But I will wager that the true odds of Brexit are considerably higher than the 28% now quoted by the bookmakers. This matters because in recent weeks the £/$ rate has fluctuated inversely with these odds quotes.
At the very least we can expect, between now and the announcement of the referendum results (at around 11 pm Thursday U.S. eastern time), that the pound risk is mainly on the downside and the dollar risk is mainly on the upside. Even if Brexit loses, tightening odds could easily pull the FXB back down to 140 by June 23.
And if Brexit wins? Well, in that case the consequences may be every bit as dramatic as the alarmists suggest. David Cameron may be forced to step down in favor of Boris Johnson, handing over leadership of the ruling Conservative Party to its "Trump" wing. UK's trade agreements and London's status as a financial hub will be thrown into limbo well into 2017. The EU's prestige will take another beating, as many Euro-skeptic parties on the continent press for their own exit vote (Frexit, Nexit, Spexit…). Safe-haven capital flows will push long-term sovereign yields to new lows worldwide. Gold will pop. The Fed may rethink its whole game plan. Many dominoes will teeter and fall.
If you're short the pound, this will be your payday.
Still, the bookmakers say that Brexit is very likely to lose. And there's a lot to be said for their view. Why in the world would the British vote for a course of action whose economic costs are so clear and so certain? Could the mere idea of national sovereignty be so important to them?
It's instructive to think back 34 years, to 1982, when a military junta in Argentina decided to invade a couple of barren and barely occupied islands off its coast. They were called the Falklands. Yes, the UK claimed them, but almost no one, not even many Brits, had ever heard of them. The junta logically figured that since the islands were worthless, and since the cost of sending a counter-invasion fleet to Argentina would be astronomical, Britain would surely just let the Falklands go. Incomprehensibly, the British public paid no attention to the cost-benefit calculators. They were adamant about keeping the islands. PM Margaret Thatcher gave her nod, and several weeks later a vast British flotilla was steaming south across the Atlantic.
As Paul Harvey would say, we already know the rest of the Falklands story. And very soon, late Thursday night, we will know the rest of the Brexit story.