05.07.2015
By Terry Flanagan

Markets Await UK Election Result 

UK equities may continue to underperform if there is a prolonged period without a UK government being formed while sterling will only strengthen if there is a clear majority for one of the big parties, according to Deutsche Asset and Wealth Management.

The UK is holding a general election today. The latest opinion polls say that neither the Conservative or Labour party is likely to win the 326 seats needed to command an absolute majority in the House of Common. If no party has a majority in parliament, the party with the most seats could form a minority government, or try to put together a formal or informal coalition with a smaller party.

A CIO Flash from Deutsche Asset and Wealth Management said the highest degree of prolonged uncertainty might stem from a majority win for the Conservative party. “In that case they would have to stick to their promise to hold a referendum about Britain’s membership in the European Union by end-2017,” added the report. “The prospect of this referendum – as the British electorate’s appetite for a “Brexit” is unclear – might be negative for markets.”

Barclays analysts said this year’s general election has been labelled as the single most important event risk in the UK. “The degree of political, policy and institutional uncertainties is unusually high and some of the potential outcomes could have significant implications for the country and the economy,” added Barclays.

In fixed income Deutsche Asset and Wealth Management said uncertainty could cheapen UK gilts against US Treasuries but UK government bonds might still be attractive given the outlook for German bunds.

Barclays said: “Given the experience of 2010-15, to some extent the election may represent less of a journey into the unknown for the gilt market than might otherwise be the case.”

Foreign exchange likely represents the cleanest expression of UK election risk in asset markets according to Barclays. “Beyond uncertainty, post-election policy risks tilt toward GBP downside, but not clearly enough at this point to offset our positive outlook for UK relative growth.,” added the bank.

Deutsche Asset and Wealth Management said sterling is likely to continue to struggle. “Only a clear majority for one of the “big” parties, preventing longer lasting coalition negotiations or even new elections, would strengthen sterling in the weeks ahead,” said the report.

The UK equities market has underperformed the rest of Europe so far this year due to quantitative easing from the European Central Bank boosting Eurozone markets. Deutsche Asset and Wealth Management said the macro fundamentals of UK equities are largely defined by the global economy so the election will only have a short-term impact.

“Only a prolonged period with no government formation at all could cause ongoing underperformance of UK equities,” added Deutsche Asset and Wealth Management, “Any Eurozone turmoil could move money back into the market.”

Barclays said that in every UK election since the 1970s consumer confidence rose in the two years before an election and then fell in the following two years.

“The uncertainty itself, together with the fact that whoever wins the election, fiscal policy will need to be tightened, suggests 2015 may repeat this pattern,” added Barclays. “Therefore, while we think the UK market overall will finish 2015 higher than it is now, changes in consumer confidence have been associated with changes in market leadership, and specifically an underperformance of domestically oriented consumer companies.”

Christopher Mahon at Baring Asset Management told The Evening Standard the election will affect currencies rather than equities. “This is somewhat similar to the scenario that occurred during the Scottish Independence vote, where the equity markets were relatively unmoved but the pound saw some big moves,” he said.

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