Still a Red Menace?

Whilst we might have seen peak Jeremy Corbyn with the Tories now fractionally ahead in the polls, the current volatility of British politics means there is still much to ponder should the Labour leader gain the keys to Downing Street

Article by Richard Champion, Deputy Chief Investment Office and Sean Taylor, Director at Canaccord Wealth Management

“To secure for the workers by hand or by brain the full fruits of their industry and the most equitable distribution thereof that may be possible upon the basis of the common ownership of the means of production, distribution and exchange, and the best obtainable system of popular administration and control of each industry or service.” (Clause IV of the 1918 Constitution of the Labour Party, removed under the leadership of Tony Blair in 1995.)

For a while in 2017, it seemed as if the worldwide tide of populism, epitomised by Donald Trump, had reached its high-water mark. In a string of elections across Europe, the populist right and the left had failed to break through. Emmanuel Macron was elected President of France, and although not from any of the traditional mainstream parties, here clearly was a man of the centre. In the UK, Theresa May called a snap election while 20 points ahead in the opinion polls. Even days before the vote, senior Tory strategists were predicting a 90 – 100 seat majority.

The populist surge remained blunted in Europe until the recent Italian elections, and Donald Trump may face a difficult mid-term election in this year’s mid-terms. But things remain on more of a knife edge than investors may like here in the UK; the Prime Minister’s continuing Brexit difficulties in Parliament can only inspire political uncertainty and in interviews in May, John McDonnell continues to maintain his role as Chancellor of the Exchequer will be to overthrow capitalism in favour of a socialist society.

Despite losing the popular vote and lagging the Conservatives by 55 seats in the election, there is no doubt that Labour has rediscovered much political vigour, though the consistent opinion poll lead over the Tories of two to three per cent we had seen has dissipated in 2018 with the Conservatives now edging a slender lead. At last autumn’s Labour Party conference, we saw a level of self-confidence absent since Jeremy Corbyn was elected leader; representatives of the party are now accorded a respectful ear in the halls of the Confederation of British Industry (CBI) and other business organisations.

The most successful populists, like Trump, have won largely by co-opting the machinery of an established party and building a rock-steady core base of support. Initially, it seemed Corbyn would fail to replicate this, and his chances were dismissed as risible.

But in the June election, he managed to pull precisely the same trick as Donald Trump. He secured the support of those who tribally could not vote for the other side, including many that had recently defected to UKIP in the run-up to the Brexit referendum, and at the same time seized the votes of the previously apathetic young as his core base. If he can repeat this, ‘Jezza’ seems electable, particularly faced with weakened opponents, even if we still don’t think this likely.

The potential impact of Labour policies
Despite our scepticism, we’re beginning to consider seriously what impact a Labour government might have. We suspect the topic is likely to be a recurring theme – or nightmare, depending on your politics – over this year. We’re already seeing impacts in several sectors.

Although policies can change over time, there are certain general constants that are likely policies of a future Labour government. Under Corbyn, the Labour Party is committed to nationalising, or at least socialising, a range of sectors, including the railways, water companies, the electrical power grid and the Royal Mail, with restraints on the banking sector and special plans for RBS. They have also promised to bring Private Finance Initiative (PFI) contracts back under state control. The minimum wage would be raised, and zero hours contracts banned.

There is a general commitment to more spending on infrastructure, health, social housing, education and sustainable energy, financed by higher taxation on companies and the top five per cent of earners, and a clamp-down on tax evasion, as well as higher borrowing. Interestingly, there was also a commitment to balance the budget in the medium to longer term. Of course, Corbyn still has to get himself elected, and his policies are likely to be put under sharper scrutiny by both the press and the Tories next time round.

But were he elected, what would these policies mean for markets? We think a mix of the following could occur as it became apparent Labour was going to win:

  • Sterling would fall sharply – triggering a classic ‘run on the pound.’
  • Government bond yields would rise.
  • Shares in banks, utilities, housebuilders, transport, support services, hotels and pubs, retailers and infrastructure trusts would fall.
  • Shares in overseas earners such as the energy companies, miners and pharmaceuticals would benefit from a lower pound and rise.
  • London house prices would come under increasing pressure.

The effect of financial markets
Ultimately, markets are likely to constrain Prime Minister Corbyn’s freedom of action. There are several examples in history of left-wing governments that have been forced to change direction in the face of crumbling currencies and rising bond yields.

Back in the early 1980s, François Mitterrand was elected President of France on a sweeping left-wing platform not dissimilar to Jeremy Corbyn’s. It involved nationalising the banks, car makers and steel industry, higher taxation and higher spending. After 18 months he had to change tack, cut spending and embrace a more market-oriented set of policies, helping to kick-start a 15-year bull market.

More recently Alexis Tsipras was elected Prime Minister of Greece on a radical left-wing, anti-austerity agenda. Yet within months he had signed up to the package of austerity reforms forced upon him by the EU and the International Monetary Fund (IMF). Of course, in the meantime, the Athens stock exchange had fallen almost 50 per cent, 10-year Greek government bond yields had shot up to over 19 per cent (they’re 5.4 per cent today) and the banking system had been effectively decimated. Once he bowed to his creditors, the equity market rebounded, and is now up around 70 per cent from its low.

Preparing for all eventualities
We remain significantly underweight UK equities, based on the poor economic and corporate fundamentals, even without the threat posed by a Corbyn victory. While we don’t yet expect he’ll turn his current poll strength into a majority-winning position, we will monitor his progress with care. Recent history has taught us not to write off the seeming improbable in politics. We would have to consider reducing still further our UK exposure if his momentum strengthened from here. In the meantime, we are finding plenty of opportunities in equities outside the UK, where fundamentals look much more attractive.  riddle_stop 2

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