Market Analysis

A surprise British general election set for July has reduced market uncertainty, allowing investors to concentrate on interest rates and economic forecasts as key factors influencing the pound, stocks, and bonds.

Prime Minister Rishi Sunak announced the July 4 election after April data showed British inflation falling to 2.3%. He aims to improve the Conservatives' poor polling numbers by emphasizing economic recovery.

Most investors expect Keir Starmer to become the next prime minister, as the Labour party maintains a consistent 20% lead in polls.

Both Sunak and Starmer aim to maintain market stability by avoiding major fiscal changes, analysts suggest.

Former Prime Minister Liz Truss's plans for substantial tax cuts in 2022 led to a sharp decline in UK government bonds and the pound, as the budget deficit was expected to increase significantly.

The UK markets have experienced volatility over the past three years due to high inflation and Truss's brief tenure but have recently stabilized. The FTSE 100 stock index is at record highs, sterling has strengthened, and major investors are purchasing government debt.

Sunak's election announcement caused a slight increase in the pound and a minor decrease in stock futures.

"This election has been anticipated by the market for some time," said Emmanouil Karimalis, a rates strategist at UBS. "Advancing the election date might benefit the market, as there was speculation about additional fiscal stimulus before a likely autumn election."

Karimalis noted that while Labour's plans will be closely monitored, the primary influences on investors will remain the domestic and global economy.

"I don't expect the election campaign and vote to significantly impact the gilt market in the coming weeks," he said.

Ben Laidler, a global markets strategist at eToro, compared the situation to Tony Blair's 1997 Labour landslide victory, noting that markets rallied without much policy change or election uncertainty.

British stocks have reached record highs recently, supported by hopes of falling interest rates and the belief that UK companies are undervalued.

"Labour's financial flexibility will be limited if they win," Laidler said. "However, their pro-renewables and pro-infrastructure agenda could boost small-cap stocks."

Sterling has increased by around 2% this month, partly due to unexpectedly strong British growth data. This is positive for Sunak but also driven by persistent inflation and delayed expectations for Bank of England (BoE) rate cuts.

The bond market outlook is critical for the next prime minister, as the government continues significant borrowing and faces high interest costs due to pandemic-related debt increases.

British debt has been severely impacted by rising interest rates and the Truss mini-budget. An ICE BofA index of gilts has dropped around 30% since 2022, compared to less than 20% declines for euro zone government debt and U.S. Treasuries.

Britain plans to raise approximately 265 billion pounds ($337.66 billion) in the 2024/25 financial year, with little indication that investors are reluctant despite this being the second-highest supply year on record.

Ed Hutchings, head of rates at Aviva Investors, expressed a preference for holding gilts over U.S. and European debt, albeit cautiously.

"The UK's underlying growth rate has been weaker than the U.S.," Hutchings said, adding that "fiscal expansion is less likely in the UK compared to the U.S."

Investors, including Pimco, Amundi, and Neuberger Berman, have recently expressed positive outlooks for gilts, focusing on inflation and the BoE.

"The disinflation trend that began in 2023 continues," said Jon Jonsson, a senior portfolio manager at Neuberger Berman. "The timing is uncertain, but the path is less important than the endpoint, and the BoE should deliver over 200 basis points of easing over the next two years."

Paraphrasing text from "Reuters" all rights reserved by the original author.