The general election’s impact on the markets will be limited but, according to UK analysts, it will mark a dividing line for activity in both the bond and equity markets.
Whoever wins will inherit a relatively benign economic picture. At Commerzbank in London, treasurer and deputy general manager Jean-Michael D’Oultremont points out that some pressure on interest rates has been relieved by lower than expected Christmas sales.
His prediction is for market consolidation. Despite up and downs, bonds and equities will not be substantially higher by the end of the year. He highlights the large amount of new issuance, which should temper growth and encourage consolidation.
Anticipating a May election, Brian Hilliard, chief economist in the fixed-income division of Société Générale, says: In terms of gilts, we expect a move to the top of the current trading range, to about 200 basis points against Bunds,” due, he says, to election uncertainty. “Around the time of the election or maybe a little before, if Labour policies are sufficiently credible, you may see the rally start with the spread going to about 160.”
He foresees Bund yields rising very gently and 12 months out is looking for a gentle rise in gilt yields to a little under 8%.
He expresses reasonable confidence in Labour’s economic policies. “To get elected, they have to be sufficiently clear to the electorate that they will operate a fiscal policy that, in very broad terms, is the same as that of the Tories,” he says, adding that there is little difference between the parties in either fiscal and monetary policy.
On the economy he says: “We are still looking for roughly 3.5% growth next year: it is going to be a gently rising inflation environment, leading to a slight rise in gilt yields.”
Andy Hartwill, UK strategist at SocGen, predicts that most market activity will be pre-election, followed by a post-election fall, then consolidation before recovery towards year-end. The election will not disturb economic progress but the government will face difficult decisions on budget deficits and interest rates, with implications for 1998.
The principle effect of the euro, if it happens, would be to narrow Bund spreads, with the long end of the gilt curve converging on German rates. “Driving down long-term gilt yields will push up the equity market, but the big question is about growth, with no sign that the euro will trigger higher growth.”
In terms of sectors he says: “Where possible I’m staying domestic and am overweight in consumer goods and financials and, controversially, in utilities.”
Jim Cox, head of UK equity strategy at Schroder Investment Management, says: “Equity will not be helped by the need to slow the economy. We still expect short interest rates to rise and have some short-term reservations about bonds, but medium term we think them quite attractive.”
He has a neutral view of equity, currently in favour of oil exploration and food, but wary of utilities. Short-term interest rate rises are compensated for, he says, by “positive underlying circumstances like industry cashflow and reasonable economic prospects”.
The consensus is that 1997 will bring slowly rising interest rates and stock market consolidation, with the markets largely reconciled to a Labour victory.
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