When we said the second quarter would bring new challenges, a snap UK general election wasn’t on our minds, but political uncertainty was. Therefore, it’s interesting that markets currently seem to be pricing in greater certainty as a result of this week’s announcement. We don’t know if this election will run more to script than others have in the last year; but we’ve started to think about what it might mean for companies and markets – and how much it matters in the grand scheme of 2017.
No-one expects a snap UK election….
Obviously the snap election was a surprise, but will the result be a shock as well? The reaction from analysts and markets suggests they don’t think so. This could be the first time in a while that markets have felt really comfortable calling the result!
There is still danger in making big bets. Obviously, the Conservative Party has a substantial poll lead that is probably beyond the surprise swings we’ve seen in previous elections. But, the UK electorate is more unpredictable post-BREXIT and skipping ahead to say how this translates in terms of policy and BREXIT negotiations is quite a leap. With this in mind, we’ve posed some questions to help us to think about what might happen during and in the aftermath of the election – assuming the polls are correct.
- Will the election create an economic or market hiatus?
Less than we’d usually expect.
The long run into an election can lead to big decisions being put on hold – from investors, companies and governments. But, this election had none of the usual long build-up with time for uncertainty to weigh on growth. Therefore, the macro-impact should be minimal. And, if the election runs according to the polls, some policy detail might change, but it shouldn’t radically alter the UK’s policy direction.Our latest IPO report showed the UK market was building momentum as companies sought to list within the two year negotiating period to take advantage of the European passporting regulations and access to European investors. The election announcement will most likely delay the UK listing market’s recovery as companies await the outcome before acting. But, it is likely to be temporary hiatus if the result convinces investors of greater stability in the UK market.
- What does it mean for sterling?
Strengthened in the short-term, but unclear and volatile beyond.This is arguably the biggest question since a weaker pound had begun to reshape the UK economy, as EY ITEM reported recently and as we’ll corroborate next Monday in our UK Profit Warning report for Q1 2017. If the pound strengthens significantly, inflation should fall back and take the pressure off disposable income. But, it obviously also creates a less positive environment for exports.
The problem is that we can’t talk about sterling’s path without talking about BREXIT. The main rationale for the pound’s leap to a six-month high is the expectation that the new government will be a stronger position to negotiate and put in transitional arrangements if it’s not worrying about its majority or a 2020 election. But, there are other drags on the pound, including the UK’s large current account deficit, which was being reduced/corrected by sterling’s fall. This all suggests significant volatility whilst the pound finds its level and reacts to every nuance of the election and BREXIT negotiations
- What does it mean for BREXIT?
We’re still only guessing! But it does buy time.
The election means that the UK’s political parties should be setting out their post-BREXIT positions on vital areas like trade, immigration and regulation. Although how explicit they will be is another question. There is a great deal of speculation as to what kind of policies a Conservative government with a bigger majority will pursue. There have been softer signals of late on immigration, but some red-lines appear to remain.As for the negotiations, clearly not having an election in 2020 is helpful and does buy time to form a better deal in theory – avoiding that 2019 cliff edge. But, the other 27 countries in the EU will have their own ideas and we obviously don’t know what trade deals the UK will get elsewhere.
- What does it mean for M&A?
There are bigger influences on deal appetites
Companies have shown a recent willingness to look beyond economic, currency and political cycles. This makes it unlikely that the election will derail activity entirely. There’s momentum in UK domestic M&A, which has just hit its highest level for a first quarter since the financial crisis. Some of this activity will be a reaction to the rising costs and uncertainty of BREXIT. The most active sectors are those that have been hit hardest so far, like retail and consumer products.The world is changing and that will put some companies on the back-foot. But this changing world should also encourage companies to get on the front-foot and sell underperforming and non-core businesses. Our latest divestment study also shows that roughly half (47%) of UK companies expect to make a divestment within the next two years. We expect portfolio adjustment to be a big theme as companies adjust to changes in their markets.
What could slow M&A – in the UK and elsewhere – is a changing political attitude to deals, trade and globalisation in general. The election might not halt deals, but any resulting polices that increase protectionism could dent inbound M&A. UK inbound activity was weaker in Q1 – reflecting the fall in UK FDI – although we’ve seen a some major inbound deals announced at the start of Q2. If currency has an impact here, it’s clearly not a deciding feature.
- What does it mean for equity & debt markets
A muted reaction – unless the result looks surprising
The reaction thus far as been small beyond the sterling-related fall in the FTSE 100. Arguably, we should only expect significant moves if the result looks like going a different way or if manifestos have game-changing content. Going back to the point we made in our last blog, markets have been incredibly resilient in the last year or so. And frankly, there have been bigger surprises and bigger risks, which brings me to my final question…
- Does it matter?
Yes, but it’s a crowded ‘concern’ market place
It’s not that this isn’t an important event, but it’s one of a number of important events. It adds to the overall level of complexity, but it comes in the context of rising geopolitical turmoil; other elections – including the French this weekend; speculation over how many times the Fed will raise interest rates; the progress of any US stimulus package…and countless other long-term trends and factors that companies and investors need to consider.The result of the first stage of the French Presidential Election may inspire a bigger market reaction. The flattening US yield curve is arguably the most important recent market move since it signals concern over US stimulus and growth.This snap election won’t be the last or biggest surprise of 2017.