“One particular vulnerability is the very sizeable fiscal and current account deficits the UK has been running in recent years,” he explained. “These may weigh much more heavily on investor sentiment when set against a febrile political backdrop.
“The pain may not be felt instantly, but recall how markets turned on the so-called ‘Fragile Five’ emerging markets during 2013’s ‘taper tantrum’. Their wrongdoing was to run a current account deficit averaging 4.6% and a budget deficit averaging 3.5%. Today the UK’s current account and budget deficits stand at 5.5% and 5.3%, respectively. Perhaps we are fragile too?
“If we are, the cost will be a weak currency and, in the worst case, higher interest rates. Many years have passed since the bank last raised rates to protect sterling – it is not unthinkable they would do so again.”
Having dropped to 1.46 on 13 April, the pound’s value against the dollar climbed back up to 1.50 as of 3.25pm on 23 April, despite the looming election.
However, RBC Wealth Management predicts sterling to reach the end of 2015 at 1.44 – though this is mild compared to Bank of America’s forecast of 1.35 – and the firm highlighted ways in which investors could capitalise on sustained weakness.
“The political risk would contribute to a weak pound, which tends to be good for exporting industries,” said Frederique Carrier, RBC’s director of European equities.
“If volatility increases before or after the election, we suggest investors take advantage of price corrections to build positions in companies that may be UK-listed but have a strong global footprint and are not too impact by domestic economic turmoil, such as media, healthcare and industrials sector,” added Carrier.
Of Buxton’s UK Alpha Fund, 31.9% is in financials, representing the fund’s biggest weighting – given the chances of a Labour-led government, which has outlined its intention to target the sector, is it wise to have such a significant position exposed to it?
“In the event a Labour government there is a threat to banks of a raising of the bank levy and insistence on further bank break-ups,” he said. “We have already seen TSB broken out, Williams & Glyn being carved out of RBS and a number of banks challenging [being subject to] initial public offering.
“The market may well take fright and knock the sector very hard. However, we know from the carve-out experiences of Lloyds and RBS that it is a process that takes years to achieve because it is still reliant on legacy IT systems and infrastructure. So in the short-term the stock market reaction will be negative, but the reality is that we will have several sets of half-year results before we get to the actual carve-out,” Buxton added.
