Rarely can there have been a general election with as many permutations linked to its outcome, some of which could play out over a much longer timeframe than usual, thereby posing a genuine dilemma for investors.
Received wisdom has it that investors fare best by riding out political and economic upheaval; consider Warren Buffett’s well-worn axiom: “Only buy something that you’d be perfectly happy to hold if the market shut down for 10 years.” But stasis might not be a viable option in the event of an incoming government that has publicly touted the idea of buying back privatised assets at less than their current market value.
The shadow chancellor, John McDonnell, has asserted, perhaps not unreasonably, that state utilities were effectively hived off at a substantial discount to their underlying worth, so what’s stopping the state from reversing that process? Certainly not the customer base of the privatised gas and electricity, water, railways and postal industries, the bulk of whom are unlikely to have direct exposure through private holdings – their pensions are another matter, though.
The impact of such a move would ripple out well beyond our disputed territorial waters. At a stroke the UK would lose its reputation as a dependable destination for foreign capital, severely limiting our ability to run a current account deficit once foreign direct investment starts to evaporate. It doesn’t end there. Liquidity could be withdrawn from equity markets, while trading volumes – and price discovery – could be impaired. An incoming Corbyn-led government would also abolish the capital gains tax (CGT) tax-free allowance of £12,000, with CGT rates replaced by a tax on capital gains in line with an investor's personal income tax rate.
An outright Labour majority seems unlikely for now, but the pollsters have been known to get it wrong. Industry veteran Sir John Curtice recently pointed out that if the Tories drop just four percentage points in the polls, “we could be entering hung parliament territory”.
This is partly a reflection of the fragmentation of British politics since the global financial crisis; the EU referendum merely accelerated the process. But a coalition government might prove the worst of all worlds. It’s difficult to know what price the Liberal Democrats and Scottish National Party would extract for effectively handing Jeremy Corbyn the keys to Number 10, particularly if you take the view that Nicola Sturgeon is happier talking about the iniquities of the Westminster system, rather than actually pursuing Scottish independence.
Depending on how the ‘remain’ vote splits, it’s certainly not inconceivable that the Liberal Democrats could demand that Article 50 of the European Withdrawal Act is revoked, particularly given the Labour Party’s policy disarray on the issue. Whatever the ensuing post-electoral trade-offs, this is likely to be an enfeebled arrangement from the get-go; unless a coup d'état ensues in the wake of the election, it’s unlikely that we will benefit from the fabled government of national unity.
Markets abhor a vacuum. It’s a minor miracle that indexes have held up as well as they have, even though political uncertainty prevails three-and-a-half years after the UK voted to leave the EU. Consequently, UK equity valuations are undemanding both historically and relative to other markets. This is particularly true of domestically orientated stocks, where relative valuations remain suppressed by Brexit-linked uncertainties.
Or are they? It can be shown that equity markets tend to outperform in the run-up to an election if the electorate feels confident about who is going to win. Since Boris Johnson called the election at the end of October, the value of the benchmark FTSE 100 has pulled back slightly, whereas the FTSE 250 index is 3.7 per cent ahead of where it was a month earlier. Hardly a stellar move, but the latter index is more exposed to domestic economic activity, while the financial performance of many FTSE 100 constituents – and their dollar-denominated distributions to UK shareholders – have benefited from sterling devaluation.
It could be that the market is pricing in a Tory majority government, although the FTSE 250 has some catching-up to do, at least relative to the UK benchmark. And at the time of writing the index was faltering as the chances of another hung parliament were said to be increasing, so you might want to think twice about going long on UK domestic equities if you are considering a dalliance in the contracts for difference (CFD) market.
