Paul O'Connor, Head of Janus Henderson's UK-based Multi-Asset Team, discusses the UK election result, focusing on what it could mean for Brexit negotiations and the potential investment implications.
Theresa May’s decision to call an early election to capitalise on the Conservative party’s polling lead in April has backfired. Instead of achieving the ‘stronger mandate’ to deliver Brexit she was seeking in this election and achieving ‘a period of stability’, she has plunged the country into a state of political confusion and has put her own role as prime minister in serious doubt.
Bad timing for Brexit negotiations
As the polls currently stand, the most likely short-term outcome is that the Conservative party will form a minority government, supported by the Northern Irish Unionist parties. However, the frailty of the government’s position means that a change in leadership of the Conservative Party seems highly probable and another election in the months ahead now looms as a serious prospect.
The fact that the formal phase of the Brexit negotiations are due to start on 19 June highlights the political significance of the election outcome. At this stage it is hard to see how the UK government, with no effective majority, will be able to put together a coherent set of policies to form the basis of a negotiation strategy. While it is possible that the UK government will request a delay to the start of the talks, the overall deadline remains a formidable challenge. Extending the March 2019 exit deadline would require unanimous support from all 27 European Union nations. It is far from obvious that they will have any appetite for this, given how resource-intensive the whole process will be and the fact that European Parliamentary elections are scheduled for May or June 2019.
A shift in stance?
On balance, the election outcome should probably be interpreted as representing a shift in the UK’s stance away from the sort of ‘hard Brexit’ that Theresa May was pursuing towards softer outcomes. However, the risk of a ‘no deal’ scenario is now probably greater, given the chaotic state of UK politics and the challenging Brexit timetable.
The general rise in uncertainty emanating from this inconclusive election outcome is clearly a negative for UK business and consumer confidence and ultimately growth. However, any effect here might be counterbalanced by the fact that the vote is likely to lead to an easier fiscal stance. We retain our core view that the UK economy is set for a low (1-2% gross domestic product) growth trajectory for a few years until uncertainty surrounding the Brexit process can be decisively dispelled.
Wary of UK exposure
Against this backdrop we remain wary of exposure to the UK economy and retain a cautious view on sterling. While the currency has already fallen a long way, it is likely to retain a negative bias until macro momentum has stabilised and political uncertainly has eased. Perceptions of the Brexit process will remain the key driver of sentiment on the currency. While the possibility of a ‘soft Brexit’ holds the promise of a more constructive view on sterling, the fog of domestic political uncertainly will need to clear before much faith can be placed in that scenario.
Mayday = an emergency procedure word used internationally as a distress signal in radio communications.
Hard Brexit = a clean separation from the European Union, with the UK giving up full access to the European single market and customs union, in exchange for gaining full control over the right to make new trade deals, laws and regulations.