Dubai: The upcoming general elections in the UK are bringing back flashbacks of one of the worst days for financial markets in over a year; June 24, when markets around the world saw a sell-off as the UK voted to leave the European Union.
Recent polls have shown rising support for the country’s Labour Party against Prime Minister Theresa May’s Conservative party, with a Labour victory underpriced by markets, much like the Brexit vote was. For markets, that could mean a surge in volatility.
“I can’t help but think that recent history could be repeating itself with the markets currently underpricing the risk of an outcome that could differ to what markets expect, which is a Conservative victory on June 8,” said Jameel Ahmad, vice president of market research at FXTM.
He added that investors should be mindful of what they are pricing into their expectations as only a Theresa May victory appears to be priced into the sterling.
“I am personally still negative on the British pound, especially when it is trading at levels close to 1.30 against the US dollar. Regardless of the outcome of the UK election next week, the United Kingdom is still set to enter a prolonged period of uncertainty when it comes to Brexit negotiations with the EU, and is likely to weigh on investor sentiment when considering purchasing options on the pound,” Ahmad told Gulf News in an emailed statement.
Negative outlook for sterling
Discussing the outlook for the sterling, analyst consensus pointed a bearish view on the currency.
In an interview in May, Norman Villamin, chief investor officer of private banking at UBP, said he believed the sterling was underpricing political uncertainty around the Brexit negotiations. He added that he did not believe risk-reward ratios were attractive in UK markets.
FXTM’s Ahmad said that even if politics play out as per market expectations (meaning a May victory), investors are likely to move their attention towards the UK entering a prolonged period of uncertainty when it comes to negotiations with Europe. That would still encourage selling pressure on the currency.
In April 2017, UK Prime Minister May called for an election, saying she needed a bigger majority to ensure stability as she tried to strengthen her hand during the Brexit negotiations.
Naeem Aslam, chief market analyst at Think Markets UK, compared May’s gamble with the elections to that of David Cameron, the former Prime Minister who called for the EU referendum. Cameron has since resigned after the Kingdom voted to leave the Union.
“Investors are worried about a hung parliament, and if we get more polling data confirming that the possibility of a hung parliament is more real, we could see the British pound losing ground against the dollar and the euro. We do think that the sterling-dollar pair could drop all the way to 1.26 mark if we break the support of 1.2752,” he said in a note.
Aslam pointed, however, that the weakness in sterling usually helps the FTSE 100 index move higher — a trend that is expected to continue.
Regional impact
As for the elections’ impact on regional markets, FXTM’s Ahmed said they could represent a risk for emerging market assets including those in the UAE and the GCC region. Ahmad said the largest risks to emerging market assets are generally when potential outcomes are heavily underpriced.
In late June 2016, when the UK announced it would be leaving the EU, markets across the world saw panic selling as a cloud of uncertainty loomed over investors’ heads who had only priced in a Remain outcome.
The negative sentiment echoed even here in the UAE, with the Dubai bourse’s main index dropping as much as nearly 5 per cent in early trade as the election outcome took local investors by surprise.
With elections this time around, however, Marwan Shurrab, head of high net worth and retail brokerage at Al Ramz Capital, disagreed with the view that the outcome would bring risks to regional markets. He said the elections are unlikely to have a strong impact on markets in the UAE and GCC.
“[The elections] wouldn’t affect sentiment aggressively in the market here because the effect is more local rather than international as it would show the consensus on Brexit. I would expect more impact on volatility and sentiment across international markets with the political situation in the US, Europe, and Asia,” he said.
Property market
He added that investors in the UAE can take advantage of a weaker sterling to invest in the UK, with valuations in the property market, for example, being more attractive. However, that was not to say that the outlook for the UK’s economy was necessarily positive.
“The view overall is still unclear due to impact of the Brexit on the UK economy, and how [the economy] will be able to deal with the exit. The biggest question out there right now is whether they [UK] will be able to negotiate an exit deal with the European Union that will not harm the British economy,” Shurrab said.
