General Election: will it pay to keep calm and carry on?

For the third time in as many years the British public are being sent to the ballot box, an event on which investors will no doubt be keeping a close eye. Like every general election, depending on the outcome, there will be winners and losers as far as individual stocks are concerned, while both before and after the vote investors will be trying to judge how the result will affect markets as a whole.

We run through how investors should prepare for the election result and consider the possible implications of various outcomes for the UK stock market and the pound.

- The pension manifestos: here’s what post-election retirement could look like

Calm markets

Usually a general election brings together two elements financial markets loathe: uncertainty and political meddling. This time around, however, the outcome of the vote seems pretty clear-cut, with all the opinion polls pointing to a big victory for the Conservative Party, led by current prime minister Theresa May. May is expected to strengthen her grip on the House of Commons by upping her previous majority of 17, possibly to as high as 100. This will give her more compromise cards to play with at the Brexit negotiating table, as there will be less likelihood of her being boxed in by her own hardline backbenchers in parliament.

Most investors, including star fund manager Neil Woodford, view this as a big positive as far as markets are concerned. ‘An increased majority will give greater clarity and stability on domestic monetary and fiscal policy over the years ahead,’ says Woodford, adding that the election is ‘less important’ than previous ones because there is a ‘reasonable amount of certainty over the outcome’.

Indeed, when looking back at how stock markets fared during other election landslides, a clear pattern emerges. When the outcome looks certain, the FTSE 100 rises, as was the case in the run-up to the 1987, 1997 and 2001 elections. But when the vote is deemed too close to call, markets wobble. The election leading up to the coalition government in 2010 saw the FTSE 100 fall by more than 8 per cent, for example.

In addition, as the chart (opposite) shows, markets tend to do better under a Conservative government – although as Russ Mould, investment director at AJ Bell, points out, investors may be wise not to read too much into this, as over the long run ‘the ultimate drivers of company share prices and valuations are profits and particularly cash flow’, rather than politics.

Woodford describes May’s decision to take the UK electorate to the polls again in June as ‘very astute’, a sentiment echoed by many of his peers. ‘I expect the Conservatives to win with an increased majority, and from that perspective, it looks like a no-brainer for May to capitalise on opposition weakness and secure a five-year term over which to negotiate and deliver the UK’s exit from the European Union,’ he adds.

As far as bond markets are concerned, the election is being viewed as pretty much a ‘non- event’, remarks Eric Holt, manager of the Royal London Sterling Extra Yield Bond fund. ‘As well as the election looking a foregone conclusion, the odds are short on interest rates remaining where they are for the foreseeable future, so I am not worrying about it, to be honest.’

Some investors, though, have moved to take risk off the table, despite the likelihood of a Conservative victory. Nathan Sweeney, senior investment manager at Architas, has been boosting his allocation to gold across the multi-asset funds he manages, due to ‘the uncertain geopolitical situation’, which he says has ‘been heightened’ by May’s decision in April to call a general election.

He says: ‘In recent weeks we have increased our allocation to gold slightly after introducing the position last year. We are potentially in the advanced stages of this current market cycle, and we think it prudent to add in an asset that has no counterparty or duration risk and can do something truly different in a period of stress. Alongside this, we have increased our exposure to alternative assets such as infrastructure and renewable energy.’

Click the chart below for a larger version.

Sterling question

When the snap election was announced on 18 April, a trend that had been playing out since last June’s Brexit vote started to reverse: the FTSE 100 declined, while the pound climbed higher. Colin Morton, manager of the Franklin Templeton UK Equity Income fund, thinks it is too early to call currency movements, but if he had to predict an outcome, his money would be on further sterling upside.

‘A significant affect on equity markets would be a reversal of the currency impact, which has been benefiting a number of overseas earners listed on UK indices that since Brexit have been enjoying the translation effect resulting from a weakening pound,’ says Morton.

Such a reversal ‘could boost UK domestic stocks that would see production costs overseas fall,’ he adds. He cautions, however, that we will have to wait and see how currency movements pan out in the wake of the election.

He continues: ‘There are already a few signs that the anticipation of a more stable Brexit negotiation could be a game-changer for currency, potentially rallying the pound from its low levels and thereby removing the benefits the consumer goods companies in particular have been relishing.’

But Mark Martin, head of equities at Neptune Investment Management, who is also lead manager on the Neptune UK Mid Cap and Neptune UK Opportunities funds, cautions that with expectations for a Conservative landslide so high, any disappointment could result in a sterling correction. Indeed, he says: ‘Even if the Conservatives do secure a big election win, the path for Brexit remains extremely uncertain. The only way we see sterling strengthening significantly from here is if the prime minister is able to maintain the UK’s position in the single market. This seems highly unlikely given the hardline stance of EU leaders, who have repeatedly emphasised that they will not allow the UK to have freedom of trade with the EU without the UK consenting to the free movement of labour.’

Martin is therefore focusing his attention on internationally facing UK mid-cap companies, particularly those that have yet to benefit from sterling weakness since the Brexit vote. He names sausage casing maker Devro and Ultra Electronics as two firms he is backing.

Sectors in the firing line

Given that there seems only one possible outcome, ‘election-proofing’ sectors that may be on the receiving end of political meddling is an easier call.

In a case of déjà vu, the energy sector is again in the firing line. Back in 2015 then-Labour leader Ed Miliband said he would force energy firms to freeze their prices if Labour won the election, a move that May is expected to emulate in the Conservative Party’s manifesto. The pledge to cap energy bills for those on standard variable tariffs will be given the thumbs-up by consumers, but it will no doubt receive a colder response from investors who hold shares in utility firms SSE and Centrica.

At the time of writing (16 May), ahead of the Conservative Party’s manifesto, there are no obvious other sector losers.

But in terms of winners the housebuilders could once again be given a boost by favourable government policies. The Conservatives have promised to build a ‘new generation’ of social housing.

Three safe haven funds and trusts for an uncertain world

For investors on the lookout for safe haven funds, two that are regularly tipped by both financial advisers and fund analysts are Newton Real Return, an absolute return fund that has proven to be a steady performer over the years, and Personal Assets, an investment trust that is managed very conservatively. Another fund that could be regarded as a ready-made safe haven is the Schroder MM Diversity fund. Fund manager Marcus Brookes is currently in cautious mode, with 25 per cent held in cash. Brookes is bearish on the outlook for bond markets and expects the 35-year bull market to end.

Three sectors to play a sterling recovery

In the event of a stronger post-election pound, more domestically slanted UK shares are tipped to shine, particularly those that have found themselves under the cosh since last June’s Brexit vote.

Russ Mould likes the look of general retailers, food retailers and the real estate plays, all of which have found themselves deeply out of favour of late.

In the general retailers space, Mould names Next, Dunelm and Mothercare as three firms that will benefit from cheaper raw material costs in the event of the pound strengthening. He names Tesco, Sainsbury’s and Morrisons as the main three food retailers that would welcome a sterling recovery. Turning his attention to real estate he points out that real estate investment trusts (Reits and house builders, took a drubbing in the aftermath of the referendum result last year. But whereas house builders have recovered, Reits have yet to recapture the ground they lost.

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