Nick Blogg, Investment Manager
If the last 12 months have taught us anything it is to be wary of paying too much attention to the polls and the result of Thursday’s UK Election only reinforced this. Whilst the Conservatives were the most backed party, the result was far from a Conservative victory as May and her party gave up their slender majority and have been forced into attempting a hurried coalition with the Democratic Unionist Party, a thought that would have been far from her mind on the eve of the Election.
When May called the snap Election in mid-April her lead in the polls was 21 points. Whilst this narrowed as Election Day approached, her lead in the polls at 7 to 8 points was still forecasting a Conservative majority.
However, shortly after 10pm on Thursday the exit polls predicted a stronger than expected Labour vote and as the night wore on it became clear that May’s decision to call an election had back fired.
There has been much debate about the campaign and the impact it had on the outcome, however from our perspective we prefer to focus our attention on the reaction of the financial markets and what it may mean going forward.
Given the move in sterling since the election was first announced, it is perhaps unsurprising that it is the most vulnerable asset to a sell-off in the event that the result did not include a clear majority. Inevitably as soon as the exit polls were announced sterling came under pressure with traders pouncing on the prospect of a hung Parliament and taking bearish positions on GBP. On Friday sterling was down 1.5% against the US dollar and 1.7% against the Euro.
In keeping with what we have seen over the past 12 months, the FTSE 100 Index responded positively to the fall in the currency by finishing 1% higher on the day. The FTSE 100 is dominated by large, international companies and across these firms roughly 70% of earnings come from overseas. The move in the Index was largely driven by the fact that a fall in sterling translates into higher reported earnings for these firms whilst making UK exports more competitive. It is interesting to note however, that GBP still remains higher against the USD than before the snap election was called and is up 2.50% so far in 2017.
While the initial market reaction was somewhat sanguine, the longer term outlook remains uncertain. May’s own position as Prime Minister looks precarious and despite reassurances she will be in place for another two years she may well face a showdown within her own party after the disastrous showing in the election. When calling the snap election, May had hoped to strengthen her own position and that of her party giving her a clear mandate to negotiate the UK’s exit from Europe. The result was somewhat different and ultimately, at a time when there is already plenty of uncertainty around, the outcome has only led to yet more uncertainty for the UK and even the prospect of a further election in the not too distant future.
This political uncertainty is clearly an unwelcome distraction with the Brexit negotiations due to start in earnest on 19th June, putting May and the UK somewhat on the back foot. The Conservatives will remain in power, supported by the Democratic Unionist Party (DUP) who although pro-Brexit, share a belief with many voters and businesses that this should be a soft Brexit rather than a hard Brexit. While the DUP could support some Conservative policies there are differences to overcome for a coalition to work. The DUP want an open border with the South, continued access to the free trade zone and support for agriculture to continue. The consensus now is that May will have to reach a compromise, leading to a softer Brexit than had initially been proposed under a Conservative majority and there have already been suggestions about a cross party negotiating team for the Brexit process, which would only lead to further compromise.
We will be monitoring developments with the Brexit negotiations as we try and assess the long-term impact it may have on markets and sectors. Interestingly, global markets seemed to take the news in their stride with the ripple effect of another political shock barely registering an impact elsewhere. Although overall market volatility has been muted, across sectors investors have seen a very different picture. The dispersion in sector performance has continued, and yet again, highlights the benefits of having a diversified investment portfolio. We remain cognisant of the headwinds and the possibility that these could blow the financial markets off course. Subsequently, we will always recommend a balanced and well diversified portfolio for those investors looking to mitigate the volatility in markets to help absorb the shocks that we expect to be an ongoing feature of financial markets in the year ahead.