What does a hung Parliament mean for investors?

Following the surprise UK General Election result, we consider the implications for the economy and markets.

What does a hung Parliament mean for investors?

Economy

Not surprisingly, Azad Zangana, senior European economist at Schroders, said: “This is a disastrous result for the Conservative party, which must raise questions over the future of Theresa May as Prime Minister. As the largest party following the Election, the Conservatives are likely to remain in power as a minority government, relying on the confidence and supply of votes from friendly opposition members of parliament. This suggests a less stable government, one that will have to make concessions and seek a consensus even when introducing simple changes to legislation.

“For the economy, households and corporates will be concerned by the increased political uncertainty. However, at the same time, the paralysis in Westminster will mean fewer changes to fiscal and economic policy. Despite this, we expect a pull back in household spending and business investment which will exacerbate the slowdown currently being experienced.

“The fall in the pound has been smaller than expected given the hung parliament. At the margin, lower sterling will push up inflation a little further than previously forecast, which will have a small negative effect on household spending.

“The Bank of England is unlikely to change its policy in the near-term but it will offer reassurance that it stands ready to act in the event of financial instability.

“Looking ahead, there is a high chance that any Conservative minority government may not last beyond a year. It will likely struggle to pass any finance bill.”

Brexit

Ed Smith, Rathbones’ asset allocation strategist, said the Election result brings more uncertainty but could increase the chances of a softer Brexit or less austerity.

“We had already warned that a deteriorating outlook for household consumption expenditure had made revised expectations for UK GDP growth this year difficult to beat,” he said.

“Additional uncertainty reinforces our view. That said, if today’s results can be interpreted as a reduced mandate for ‘hard’ Brexit, growth in 2018 may be better than expected. Further, if today’s result can be interpreted as a vote against austerity – or at least the current level of austerity – a change of policy would also improve prospects in 2018.”

Zangana believes that “serious damage” has been done to the UK’s negotiating position on Brexit: “Without a strong mandate, Europe can ignore the UK’s demands. Even the UK’s threat to pull out of negotiations will now appear hollow and lacking the support of the British public.”

Equities view

“Asset classes are rarely affected by General Elections, even when the Election outcome was not clear before polling day,” said Smith. “In 2010, the performance of the FTSE relative to the global equity benchmark weakened into the General Election and continued to do so for another two weeks, before beginning a sustained period of outperformance. But these moves were not large.

“If the pound stays weaker, the FTSE 100 should benefit (based on recent correlations) due to effect of translating overseas earnings into sterling (c.80% of the FTSE’s revenues are earned abroad). In early trading, the FTSE 100 is up 1.0%, the FTSE 250 down 0.5% and 10-year gilt yields are up a fraction at 1.06, largely driven by inflation expectations. Interestingly, equity and exchange rate volatility are usually lower than average during election years. That said, we have uncovered an increasing sensitivity of investments to economic and policy ‘uncertainty’ over the last two years.”

David Docherty, fund manager, UK equities, at Schroders, said: “An initial flight to safety is likely in UK equities as investors favour resilient companies with international earnings.

“Economically-sensitive domestic consumer companies, such as general retailers, may be vulnerable to a weakening pound. This is because foreign exchange moves impact their profit margins and the real disposable income of their customers. Other domestic financial stocks such as banks, housing and real estate may also be weak.

“Longer term, a recovery in sterling is possible were the market to discern a reduced likelihood of Brexit actually taking place. A stronger growth narrative might also emerge as the opposition parties argue for greater public spending.

“In the meantime, given Labour’s greater proximity to power, investors will start to calibrate the impact on companies of the higher taxation and significantly greater government intervention (including nationalisation) inherent in the Labour manifesto.

“As much as these political events drive fierce debate, investors will also place them in the context of other factors. These include the general global economic backdrop, the valuation of UK equities and bottom-up stock selection considerations.”

Bonds

Alix Stewart, fund manager, fixed income, at Schroders, said: “The outlook for UK government bonds is more uncertain. However, they are likely to sell off at least initially as investors will require a higher return from them. This is because more government spending means more borrowing through bond markets and the higher inflationary environment.

“Longer term, however, UK government bonds should remain well supported due to the economic uncertainty caused by the political turmoil in the face of looming Brexit negotiations.”

Uncertainty

Richard Stone, chief executive of The Share Centre, highlights the likely ongoing uncertainty. “At the moment it’s unclear quite what the outcome of the Election could mean for people,” he said.

“As a consequence of that there’s uncertainty around Brexit negotiations, around tax and spending plans, and what elements will end up being in the new Government’s programme as it goes forward. So there’s a lot for investors to take on board as they try and work out what might happen next.

“In the near term, we will likely see a drop in Sterling. This may counteract any potential fall in the FTSE 100 at least given the level of overseas revenues and earnings in those companies. Markets may also have a view that Brexit negotiations, due to start on 19 June, may have to be more conciliatory as the Prime Minister would have to work harder to build a consensus in Parliament for those negotiations.

“Finally, an arrangement, formal or informal, with the DUP MPs from Northern Ireland will thrust Northern Irish politics to the fore – the border with Ireland of course being one of the key Brexit negotiation issues.

“As we know markets react badly to uncertainty so we expect sterling to fall and markets, particularly the more UK-focused FTSE 250, may be nervous until the future direction of the government and its programme becomes clear and as investors try to understand what this will mean for their portfolios.”

Mark Taylor, chief executive officer at Selftrade from Equiniti, is advocating a little and often approach to investing.  “Overseas investors looking at the UK as an opportunity will be reluctant to commit, which could well mean that markets remain volatile,” he said. “That is why we believe in investing little and often or “piece by piece”.

“Nobody can tell when a market could rise and fall with any degree of certainty, so we think regular investing on a monthly basis is a better approach during times of uncertainty.”

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