Brexit Tests Investors’ Nerves, But Also Prompts New Refinancing Demand

Jul 29, 2016

In the immediate aftermath of the United Kingdom’s surprising vote to leave the European Union (EU), it looked to many financial market observers that the sky was starting to fall.

Britain’s exit (the Brexit) decision did in fact roil the U.S. financial markets for a few days, and it has added some uncertainty for investors. But by and large, the historic event is unlikely to alter the U.S. economic landscape — at least for the second half of this year — according to Fannie Mae’s Economic & Strategic Research (ESR) group.

“Financial volatility resulting from Brexit has created some uncertainty among investors,” says Fannie Mae Chief Economist Doug Duncan. The fallout includes a sharp drop in yields on government bonds, a flattening in Treasury yield curves, and depreciation of the Chinese Yuan against the dollar.

Effect on the Mortgage Industry

But the Brexit referendum, if anything, may lend the domestic mortgage market a few extra days of sunshine for the balance of the year. That’s because it has taken some of the wind out of Federal Reserve’s plans to gradually increase interest rates.

“Our view on interest rates continues to be ‘low for long’ as we believe a Fed decision to raise interest rates will likely be on hold until June of 2017,” says Duncan.

Brexit will likely have a “limited” economic impact on the U.S., he adds, especially from a trade perspective. And, Duncan says, he expects Brexit “should be a near-term positive for the housing and mortgage market as falling mortgage rates have prompted new refinancing demand.”

The ESR group now projects a 2.2 percent rise in mortgage origination volume in 2016 from 2015 — to $1.75 trillion. Before Brexit, the forecast was for a 2.8 percent drop.

Ripples Continue

According to the ESR group’s July 2016 Economic and Housing Outlook, the U.K. will likely suffer a moderate recession as the result of Brexit. And growth in the Eurozone — which is about 30 percent of the world economy — will likely slow as well.

“Countries around the globe are also adjusting the amount of credit exposure they will have in the U.K.,” according to the ESR group. However, according to estimates from Moody’s, the U.S. banking system’s exposure to the U.K. totals $920 billion, an amount dwarfed by its exposure to other major European countries such as France and Germany.

The ESR group also says the Brexit impact on U.S. direct trade should be limited because the U.K. accounts for less than 5 percent of U.S. exports. Slower global growth and a stronger dollar do suggest that U.S. net exports will worsen. However, exports account for only about 12 percent of U.S. gross domestic product.

Fannie Mae is forecasting 2 percent economic growth in the U.S. for the second half of 2016, mostly reflecting a surprisingly strong pickup in consumer spending through May. That’s the same as in the prior forecast, before Brexit.

“The biggest risk of Brexit may be that other countries might be emboldened to leave the EU,” says Fannie Mae’s July outlook for housing and the economy. It is also possible that Scotland will vote to leave the U.K. Also, Brexit has put more pressure on the Italian and German financial sectors, which have seen recent tension. That said, while Brexit has created uncertainty, the U.K.’s new leadership has committed to an orderly management of the withdrawal process to minimize shocks to financial markets.

“Overall, increased political and economic uncertainty could weigh further on business spending and hiring plans, which already face considerable headwinds from shrinking profitability, low productivity, and rising labor costs prior to the referendum,” the ESR group says.

But “barring concerns that will lead to a significant tightening of financial conditions, the negative impact of Brexit on the U.S. economy will likely be small,” the Fannie Mae outlook concludes.

Fannie Mae still expects housing to expand moderately in 2016, adds Duncan.

“While new home sales have pulled back from their expansion-best, existing home sales rose to their highest level in more than nine years amid the largest year-over-year drop in for-sale inventory since October of 2015,” Duncan says.

“Without relief from new construction, housing inventory will likely remain tight, boosting home prices and constraining affordability.”

(Editor’s Note, this article originally appeared in Housing Industry Forum, also published by Fannie Mae.)

Estimates, forecasts, and other views expressed in this article should not be construed as indicating Fannie Mae’s expected results, are based on a number of assumptions and may change without notice. How this information affects Fannie Mae will depend on many factors. Neither Fannie Mae nor its Economic & Strategic Research (ESR) Group guarantees that the information in this article is accurate, current, or suitable for any particular purpose. Changes in the assumptions or underlying information could produce materially different results. The ESR Group’s views expressed in this article speak only as of the date indicated and do not necessarily represent the views of Fannie Mae or its management.


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