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Snap UK Election on the Cards

September 3, 2019

 

Summary

 

At present, the United Kingdom is set to leave the European Union (EU) without a deal on 31st October. The likelihood of this outcome has increased since the premiership of Boris Johnson who has suggested that voters are frustrated with the entire process and would prefer a resolution. The Prime Minister has now threatened to call an early election to attempt to bring an end to the Brexit impasse. The uncertainty is still prevalent and consequently the volatility of Sterling has been a side effect of this instability.

 

The US-China trade war continues to rumble on with Trump declaring extra tariffs on China. China retaliated with additional tariffs but declared a slight softening in tone stating that further discussions were necessary, therefore demonstrating a willingness to get back to the negotiating table.

 

UK

 

Brexit uncertainty is still rife and is having a detrimental affect on investor sentiment within the UK. Since the referendum, fund managers have seen $28bn of UK equity outflows and this highlights how investors are currently viewing the UK. In addition, Sterling has been the barometer of the likelihood of the UK leaving the European Union without a deal and this has now fallen to the value of $1.19, the lowest level since the referendum result. This further weakening of currency has been caused by snap election speculation with investors concerned that the UK could crash out of the EU without the cushion of a withdrawal agreement. The Prime Minister has promised the electorate that he will not be asking the EU for another extension to the UK’s membership and with the stumbling block of the Irish backstop still in existence a no deal Brexit is now a strong possibility.

 

The question is whether an election can solve the divide in Parliament. The polls suggest that Boris Johnson has a healthy double digit lead ahead of Jeremy Corbyn, albeit this same trend was true when Theresa May called her election back in 2017 and the Conservatives ended up with a lead of 2.5%. Many questions will be asked in the next election and ironically we are in the same situation as we were in the 2015 general election with the rise of the Brexit party. The referendum was originally called by David Cameron because he overestimated the impact of UKIP on the Conservative vote and therefore his plan was to appease voters with Eurosceptic tendencies by offering the option for voters to have their say on the matter. The Brexit Party is likely to take a share of the vote in the next election and potentially split the Conservative vote. Adding further to this uncertainty is the Liberal Democrats who have taken a clear view that they would like the UK to remain within the European Union. Again, they are likely to take the vote share from the Labour party who have not given a concrete view on their position on Brexit.

 

A general election is likely to be a quasi referendum making the result of the next election highly uncertain and political commentators have suggested that some form of a coalition is likely. The question is whether this coalition will be strong enough to determine a clear mandate for the UK to remain or leave the European Union.

 

US

 

In the space of seven months the US central bank has U-turned from predicting that they would continue to raise interest rates throughout 2019 to making their first interest rate cut since the financial crisis in 2008. After raising rates last December, the Federal Reserve voted to lower interest rates citing weaknesses in global growth and commenting on the interconnectedness of the US economy to the rest of the world. The question for markets is whether the Federal Reserve could make a further cut towards the end of 2019. Lower interest rates are positive for corporates as they reduce the costs involved in servicing debt and encourage consumer spending. On balance, the slowdown of the global economy will have a knock-on effect on company earnings as general investor sentiment will weaken. Whilst the central bank continues to face pressure from President Trump to be more aggressive in their loosening of monetary policy, we believe that the Federal Reserve will attempt to hold onto its independence and focus on economic data when making their next decision on interest rates.

 

Trump has continued on the forefront with his aggressive trade war tactics by increasing tariffs exclusively on Chinese goods. China then struck back announcing tariffs on $75 billion US goods. Currently the US have applied tariffs to $550 billion of Chinese goods whereas China has only placed tariffs on $185 billion of US goods. China’s top trade negotiator has called for calm amid the recent escalation and suggested that the trade war was “against the interest of China, the US, and the entire world.” Soon after this quote, Trump stated that China had called US negotiators and suggested that they need to ramp up the face to face meetings to resolve this situation.

 

Europe

 

The President of the European Central Bank (ECB), Mario Draghi, has stated that more stimulus will be implemented if there are no improvements in the economic outlook of Europe. This was a surprise to some ECB policymakers, given that changes to bond purchases, interest rates and forward guidance policy were barely discussed in the update in June. There is likely to be some combination of renewed quantitative easing and rate cuts as the Eurozone is currently battling low inflation which could force the central bank to combat this through monetary policy measures.

 

Italian politics is unstable as ever with the failed attempt of Matteo Salvini to force an election. It looks likely that the populist Five Star Movement will form a coalition with the centre-left Democratic Party in an attempt to form some stability within the Italian government. Markets reacted kindly to this news as this coalition is likely to be more pro European and more predictable. It will be interesting to see how the Italian electorate will react to this more centrist government with the popular Salvini removed from domestic affairs.

 

Asia

 

China’s slowest GDP growth in nearly three decades highlights how the trade war has dampened the economy. Weaker economic growth has prompted the Chinese government to initiate a series of stimulus measures, as well as discussions around potential tax cuts. The breakdown in the US-China trade talks has reawakened the concerns we experienced in the final quarter of 2018 and this will continue until a deal is struck. We still believe that the most viable solution for growth in this area is for China to make an agreement with the US to remove the restrictive trade barriers and reopen opportunities for growth.

 

Conclusion

 

Macro events such as the breakdown in US-China talks, Brexit and the slowdown in Chinese growth are all influencing the direction of markets. The US-China talks continue to be protracted but we are hopeful that both world leaders will come to an amicable agreement to provide more certainty within the world economy. Despite the Federal Reserve dampening their outlook on domestic growth, the US is powering ahead when compared with other developed economies and we are still seeing business confidence improve which is supporting investment. The UK market will remain uncertain until the Brexit ambiguity has been resolved. The outlook for Europe is negative at present with Brexit uncertainty and US-China trade tensions being clear factors affecting this, which we believe will continue in the short term. We continue to favour fund managers that have a flexible, active approach, with a global remit, so they can asset allocate across the entire investment world (as we believe diversification is key). However, most importantly we will endeavour, on your behalf, to identify fund managers that invest in underleveraged companies with strong balance sheets as we believe that highly indebted companies will be punished, if there are any unexpected events.

 

 

Please note:  The opinions expressed in this update are those of A&J Wealth Management Limited only, as at 3rd September 2019, and are subject to change.  The update is for information purposes only. Source: Financial Times.

 

 

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