How will Brexit affect the U.S. Housing Market?

Will the effects be positive, negative or negligible?

Some of the immediate effects in the U.S. have already been seen. In the aftermath of the shock referendum result, long-term interest rates on mortgages have fallen sharply. Many homeowners are grabbing the opportunity to refinance their loans, but others might hold back on buying homes, although there is no need to do so in the immediate future. The fundamentals of the U.S. economy appear to be strong, especially after the June job figures. So those about to buy or refinance might be wise to go ahead with their plans, since there is a long period of uncertainty ahead.

Take the milestones on the way. The referendum was only advisory, but politically it cannot be ignored. After Prime Minister Cameron’s resignation, the Conservative Party has to select a new Party leader, the new Prime Minister. The Conservative Party rules require the Members of Parliament (MPs) to vote for a leader from the Conservative Parliamentary Party, followed by a vote of the Party members. Two Members of Parliament, Mrs. May and Mrs. Leadstrom were the two remaining candidates with a long campaign ahead and a vote due on September 9. After ill-considered remarks over the weekend, Mrs. Leadstrom stepped down. Mrs. May takes over as Prime Minister on Wednesday (July 13) to widespread relief, a rally in the markets and a rise in the pound against the dollar.

Brexit is unchartered territory. No one has prepared the U.K.’s negotiating stance: what alternative relationship with the EU does the U.K. want. Once that task is completed, the Prime Minister will trigger ‘Article 50’ of the Treaty of the European Union. That provides for two years of negotiations with the European Union about the nature of its future relationship with the U.K., which has to be agreed by the European Parliament and the Council of Ministers. That is unlikely to be before January 2017. The completed negotiations will lead to a vote in Parliament to repeal the European Union Act, 1972, and possibly thousands of European directives, which have been incorporated into U.K. law. These are unchartered waters for the U.K. and even for constitutional lawyers!

The Brexit success has alarmed other EU leaders, such as France, Spain, Italy, Germany and Greece, all facing pressures from their own electorates, ranging from separatist movements, relatively high levels of dissatisfaction with the EU, right-wing political parties or, in the case of Italy an autumn referendum for constitutional and labour reforms, and Greece, still surviving on bail-outs and facing continuing austerity programs.

Other problems are looming on the EU’s horizon. Italy’s banks are struggling with £360 billion of bad loans and their Prime Minister is determined to break EU rules by providing state aid for the banks. The International Monetary Fund (IMF) has lowered its growth forecasts for the eurozone from 1.6% this year to 1.4% with largely political risks, including the fall-out from Brexit, the continuing refugee surge or heightening security concerns as well as banking and financial sector weaknesses in some countries. The International Monetary Fund concludes that ‘prolonged low growth and inflation themselves make the euro area increasingly vulnerable to shocks. Policy buffers to counter these risks are low’.

Meanwhile, the first signs of problems in the U.K. property market are making themselves felt. Several large open-ended commercial property funds have suspended or deferred withdrawals, as a result of the flood of redemption requests sparked by Brexit. Over £14 billion of investors’ money is now locked in funds following suspensions by companies such as Henderson, Standard Life Investments, M&G, Aviva, and Canada Life. However, many question the sense of holing illiquid property assets in open-ended funds. Despite cash reserves, these funds have struggled with the volume of sales requests, which have continued in spite of price changes and portfolio markdowns designed to discourage investors from leaving. The suspension of trading was designed to protect investors, as it prevents funds from becoming forced sellers of their assets. However, although share prices have fallen, closed-end funds, in which investors who wish to leave simply sell their shares in the investment trust on the market and take the price they can get. Although share prices have fallen, the closed-end funds, like REITS (real estate investment trusts), in commercial property are still regarded as a good long-term investment. The effects on the residential property market are more difficult to assess. Interest rates are still low and the extreme shortage of homes (about 1.4 million) may mean that property prices may not fall immediately or much. It is not possible to say at the moment as real estate companies are reporting that sales are continuing at the same level as for some weeks before the referendum.

Why should the U.S. care about the continuing uncertainties in the EU and about Brexit? Will it affect the U.S, in the long term? Some of those results are beginning to affect the U.S. economy now, but they may well seem remote from the mortgage market. First of all, in what will be a long period of uncertainty with many causes for concern, U.S. Treasuries are seen as one of the most politically and economically stable places in the world, so funds are flooding into U.S. Treasuries, even though the yields on ten-year bonds dropped to 1.36 % and the yield on 30-year bonds closed at a low of 2.10% on Friday, July 8^th. Although the returns may be low, they are better than the bonds of many other governments, which are trading or likely to trade with negative rates as well as providing a less secure home for funds. U.S. stocks have been rising towards a new record, as investors are seeking both safety in U.S. bonds and yet searching for returns. That is a less direct effect of the upheavals in the European Union, but low yields on bonds, if they continue, will eventually affect pension funds, and mortgage rates as banks look to government bonds to provide them with the necessary capital reserves.

Brexit could affect the U.S. economy in other ways. Companies across many sectors have invested extensively in the U.K. Since 2000, American companies have gained 9% of global foreign affiliate profit from the U.K., which has been the gateway to Europe. A weaker pound and possibly a weaker euro could hit the profits of U.S. export companies with customers in both. America companies will have to reassess their relationship with the U.K. and the EU and determine how to regain lost ground. That could have a long-term effect on the U.S. housing market, but it is impossible to determine whether these effects will be positive or not.

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