United Kingdom

24 Jan 2020

By far the most significant event of the past quarter was the calling of a General Election, the first to be held in the month of December for almost a century (last in 1923).   As is now well understood, the result was a resounding victory for the (previously minority) Government under Boris Johnson, which was returned with a substantial majority of 80 seats, much larger than had been reflected in any opinion poll during the campaign.

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Such a majority was the largest for more than 30 years since Mrs Thatcher’s reappointment in 1987 and provides Mr Johnson with the ability to pass the Withdrawal Bill through Parliament and move the UK into a transition period, during which his Government will seek to negotiate a Free Trade Agreement with the European Union.  Though such a negotiation will not be straightforward, and certainly not if it needs to be resolved before the end of 2020, the use of a definitive end-date does mean that he has not got an empty threat to use in discussions across the Channel.
 
In the wake of the sizeable Tory victory, both Labour and the Liberal Democrats will be seeking new party leadership after their poor showing (Labour experienced its worst result since the 1930s, whilst the Liberal Democrats lost ground compared with their 2017 results), while the Scottish Nationalists (SNP) will seek to resurrect their campaign for devolution in the wake of their successful electoral outcome.  The scale of the Conservative majority in Westminster, together with the fact that fewer than half of Scottish votes cast were in support of the SNP, is likely to mean this rallying call falls on stony ground south of the Border.
Sluggish economic growth rate in 2019 (in only one month since February has it exceeded 0.2%) is despite a material loosening of fiscal policy already.
Ignoring politics to focus on the economy has proved difficult in the past year, since the Brexit uncertainty accompanying the political impasse has been all pervasive, in terms of consumer and corporate behaviour.  During the election campaign, all the major parties pledged to implement a more expansionary fiscal stance, with greater public sector expenditure being promised in all cases.
 
The domestic economy is in need of such a boost, since household savings have been rising in the past two years (restraining consumption) and business capital spending will continue to await more clarity on our trading relationship with the EU.  Moreover the sluggish economic growth rate in 2019 (in only one month since February has it exceeded 0.2%) is despite a material loosening of fiscal policy already.  The calendar year outcome is not expected to reach the 1.3% rate recorded for 2018 and current projections (before any new Government policy initiatives have been announced) for 2020 are for an even lower pace of growth.
Global Fund Flows to UK Bonds and Equities

Global Fund Flows to UK Bonds and Equities

Source: EPFR Global, Goldman Sachs Global Investment Research

The election outcome reawakened international investors’ interest in the UK, both in terms of resolving some of the outstanding uncertainty that had inhibited corporate capital deployment within the UK by overseas companies and in terms of augmenting the appeal of UK assets to inward portfolio capital flows.  The latter reaction can be seen in the chart above, which reflects behaviour both before (as pollsters indicated a solid Conservative majority) and after Election Day. The movement of sterling during this period will also have been a contributory factor.
 
Ordinarily any such overseas interest in UK equities would have been implemented predominantly through the purchase of shares in the FTSE 100 members, as those names are much more familiar to international investors.  On this occasion however their ambition was to access exposure to domestic assets: with more than 70% of FTSE 100 companies’ economic footprint being outside the UK, that universe of companies would not fulfil the desired objective, which meant that this new flow of cash prompted a strong bounce in the shares of mid and small sized companies.  The total return during the fourth quarter was just above 10% for the former and just below for the latter, in comparison with less than 3% total return from the FTSE 100 index.  Reflecting this skew, leisure, retailing and construction shares featured among the strongest sectors of the UK equity market.  

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