While the pound is certainly weaker versus the dollar this year, that’s true of all major world currencies. The euro, for example, is at a 20-year low and approaching parity to the dollar. Sterling is actually nearer the highs of its post-Brexit referendum vote range against the common currency, so there is little discernable political effect on the UK currency.
The construct of the UK equity market makes divining a clear read on the macroeconomic outlook somewhat difficult. The FTSE 100 index has many export-led companies that benefit from stronger earnings from a weaker trade-weighted pound. The index also has a heavier weighting to high dividend and value-orientated stocks rather than tech and growth constituents. Hence it has outperformed most major global indexes this year - but that is no balmy reflection on the UK economy. The mid-cap FTSE 250 index is more domestically aligned and has fallen 20% this year, more in line with the S&P 500 and Euro Stoxx 600 indexes.
It is the UK government bond market, known as gilts, which has the closest read-across from politics. Any opening of the fiscal taps, if not financed largely by higher taxes as the previous Chancellor of the Exchequer Rishi Sunak preferred, might have to be funded by the sale of more debt. While 10-year gilt yields have more than doubled this year from around 1% to 2.2%, this is in line with other global bond markets. Again, economics transcend politics.
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There is a shortage of short- to medium-maturity gilt supply presently, combined with large redemptions in both July and September. The gilt market can handle an increase in government issuance. The average duration of UK government debt at around 14 years is much longer than other major bond markets, and there is strong demand from pension funds for matching their long-dated liabilities.
Nonetheless, the replacement Conservative leader may well seize the opportunity for a fresh start with the European Union, which in theory ought to have a positive impact on the economy and therefore on the currency and some equities. However, until the mists of the leadership election clear and the more eurosceptic candidates are out of the running, it would be a brave investor staking much on those hopes for a reset with the continent. UK markets will — and should — have their eyes trained much more closely on inflation and growth statistics than on the shenanigans in Westminster. - Bloomberg Opinion
