Expectations and Financial Markets: Lessons from Brexit

Abstract

We use the setting of Brexit to investigate how financial markets react to news about
political events. We provide robust evidence that political risk is priced by equity markets globally.
Furthermore, commodity, government bonds and currency markets are also affected by political
uncertainty. However, our intraday results reveal that markets respond very quickly to political
news as changes in the probability of Brexit was impounded into equity prices within five minutes.
Our findings also show that investor attention significantly influences the link between the
market’s expectations of political events and asset prices.

Keywords: Brexit; political risk; financial markets; market uncertainty; volatility risk; investor attention

JEL Classification: E6, G1, G13 ,G14, H0