What does the election result mean for markets?
Charles Stanley CIO Jon Cunliffe outlines the likely impact of the election result on global and domestic markets.
The 80-seat Conservative majority in yesterday’s General Election surpassed most commentators’ estimates and, with less uncertainty now prevailing in the domestic political scene, it has had a significant effect on UK financial markets. UK equities have performed strongly, particularly the domestically-focussed FTSE 250 index of medium-sized UK companies which has reached all-time highs. Elsewhere, whilst the FTSE 100 index of large multinationals has rallied significantly, it has nonetheless lagged as further Sterling strength depresses the value of their overseas earnings.
We have for some time been flagging the cheapness of UK equities relative to other stock markets and UK government bonds, where the dividend yield gap is near the most generous on record. Despite this, many active equity investors had underweighted the UK markets due to frustration over UK political deadlock and the tail risk of a potential Labour government. Whatever one’s views on the election outcome this impasse has been lifted and the government now has a clear mandate to deliver on both its fiscal and Brexit commitments. Thus, with less perceived political risk in the UK, it is likely that both domestic and international equity investors will seek to reweight their portfolio allocations in favour of the UK. Looking ahead, we would anticipate further outperformance relative to other equity markets and domestic government bonds.
Over the last three months, the UK economy has been running at stall speed and has been a notable underperformer in a world of sub-par economic growth. However, a combination of a modest uptick in global business activity and the Conservatives’ fiscal loosening is likely to support a reacceleration of growth next year to 1.3-1.5%. If the global economic expansion remains intact, we would expect a slightly better out turn in 2021. One catalyst for an improvement in the UK’s prospects is likely to be a significant pickup in business investment, where caution has been running at levels not seen since the dark days of late 2008.
If the relative outlook for UK equities and the economy is now somewhat better, what about the global economy and markets? At the time of writing, financial markets are anticipating a so-called “phase one” trade deal between the US and China, which will see the rollback of some existing tariffs on US imports from China. Much of the optimism on next year’s growth and corporate earnings outlook rests on this. However, it is likely that the fundamental differences on technology transfer and intellectual property rights will remain unresolved. More broadly, the markets are extrapolating the recent slight improvement in cyclical growth indicators into a much more robust global growth picture for next year. The strong rally in equities in 2019 and this background of market optimism does, however, create some downside risk. Therefore, whilst we expect further UK outperformance and reasonable investment returns next year, we would caution against anticipating another year of above-average returns in global financial markets.
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Jon Cunliffe is Chief Investment Officer at Charles Stanley & Co. Limited, which is authorised and regulated by the Financial Conduct Authority.