With the UK General Election fast approaching, investors are increasingly asking about the outlook for the UK economy, both in the immediate aftermath of 8th June and over a longer-term horizon, once the dust settles.
Some might argue the initial weeks of the election campaign provided little entertainment for markets, with a Conservative landslide victory seeming inevitable.
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Yet recent polls show a closing of the gap between Labour and Conservatives, and the feasibility of a hung parliament, have given markets something to talk about, with sterling taking the brunt of their reaction.
So should investors be concerned about the election outcome?
In spite of market concerns, in our view, the UK election is unlikely to result in a catastrophic impact for UK equities, sterling and the broader UK economy.
Indeed, we believe current election uncertainty is a distraction from the wider picture and greater concerns for the UK economy. There are factors impacting the UK that will persist regardless of whether May, Corbyn or a combination of party leaders take the helm.
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By GlobalDataRising inflation, weak income growth, ebbing business confidence, and the Brexit negotiations, will continue to hold UK growth to ransom regardless of the party leading the UK government.
As for the Brexit negotiations, even in the event of a Conservative victory and continuation of the status quo uncertainty will prevail. A strong majority for May might strengthen her hand in negotiations, but the final outcome will remain unclear for some time. And a smaller win for May that changes little on the arithmetic front in parliament would heighten concerns about reaching a transition deal, with hard Brexit MPs in the Conservative party likely to have their voices heard.
Against this backdrop, investors bracing themselves for the UK Election may find some comfort in our predictions for the impact on sterling and equities.
Historically the UK equity market underperforms global equity markets in the three months following an election. So, it is understandable that some investors will be approaching the FTSE with caution at present. However, in a change from history, we expect relatively little impact on the FTSE 100 at an aggregated level from this year’s general election.
There are of course some sector considerations. For example, if we see a Conservative majority, we expect volatility in utilities on account of the Conservative’s planned cap to energy tariffs. However, we’re not braced for significant swings on the back of the election.
We believe the performance of the UK market will be more closely linked to the direction of the pound, which is in turn far more vulnerable to the impact from the Brexit negotiations, than from the election outcome.
Volatility in sterling has increased following reports that we could see a hung parliament. Whilst a hung parliament would boost volatility in sterling significantly more than an outright majority, we still believe the initial impact will be fairly limited.
The Brexit negotiations will be kicking off in earnest less than a fortnight after the election. It is their impact on sterling we should watch more closely. Regardless of which party is elected, the first phase of the Brexit negotiations is likely to unveil a number of obstacles, increasing sterling volatility.
Our base case remains that we will see a Conservative majority elected, perhaps providing markets with some comfort that we have a leader in place who has more room for manoeuvre in the Brexit negotiations. Under such a scenario we expect GBPUSD to trade higher over the next 12 months, but in the short-term things may be a little more volatile.
In our view, uncertainty in the UK will prevail on account of the Brexit negotiations, regardless of which party is elected. Savvy investors would be wise to take the result in their stride, and prepare instead for a bumpier ride as Brexit negotiations kick-off in a couple of weeks.
Dean Turner, UK and European Economist at UBS Wealth Management
