Cynics say that UK elections don't matter, that it is all just "noise", and that it is economics and globalisation that really drive markets.
They are wrong. Sometimes elections really matter. The victory last week of a business-friendly party with an unexpected majority and an improving economy represents a clear buy signal for UK shares.
It is interesting to look at the impact of two other dramatic elections. John Major's victory in 1992 surprised the markets, and saw the FTSE 100 rising by 5.5per cent the day after the polls closed. The economy was struggling, but markets responded well to a 0.5per cent cut in interest rates to 10per cent and to policies aimed at getting the economy out of recession. Financials, utilities, and consumer stocks led the way.
Once sterling was ejected from the Exchange Rate Mechanism in September 1992, interest rates fell further, growth accelerated, and the FTSE 100 was showing a gain of nearly 17per cent by the year-end. The initial positive market reaction to Major's win was vindicated by subsequent gains.
Tony Blair's win in 1997 was expected, the FTSE 100 rising by only 10 points in response to the result. However, it became clear that this too was a market-friendly outcome, with the index advancing by 5.5per cent over the next fortnight, in response to Gordon Brown handing control over interest rates to the Bank of England. Again, utilities and consumer stocks outperformed, with the FTSE posting a gain of 15.5per cent by the year-end.
Investors were cheered on each occasion by the end of a period of instability and the election of a market-friendly government. Both the Conservatives and Labour gave a clear signal that interest rates would be managed to boost growth and control inflation. Sound money, economic growth, and rising employment were clearly good for the economy. Investors took the hint and strong returns were made.
In 2015, investors faced the political risk of a hung parliament, with potentially weeks of indecision before a government was formed. A decisive election result has seen off this threat. The economic risk came from the imminence of deflation, which posed a serious threat to individuals and companies who held debt on their balance sheet. In recent weeks, and following the recovery in the oil price and the actions of the European Central Bank to get the eurozone moving, inflation expectations have started to edge up, much to the relief of policy-makers.
This easing of fears over deflation means that we could be in for a period of continued economic growth in the UK, gentle inflation, rising tax receipts, and a further pick-up in consumer confidence. Interest rates look unlikely to rise for some time yet, with any UK shift likely to be delayed until the US Federal Reserve makes its move.
Unsurprisingly, UK shares and sterling reacted positively to the 2015 Election result. The FTSE 100 rose by 2.4%, and there were strong gains from utilities, building materials, and industrials. The market reaction is defendable. Greater political certainty and less economic risk means that future cash flows and dividends can be discounted at a lower interest rate, meaning that they are worth more. Share prices should go up as a result. This may trigger a momentum loop in which a rise in share prices boosts confidence and growth, which in turn pushes share prices higher.
It's tough for those who didn't like last week's result. For investors though, a stable government, an improving economy, and low interest rates are combining to create an excellent backdrop for further stock market progress. Those initial gains are the shape of things to come.
Harry Morgan is Chief Investment Officer at Anderson Strathern Asset Management
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