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Market Commentary - Nov 2019

21st January 2020

Three years of Brexit uncertainty, which has led to political and economic uncertainty, could soon be concluded by the UK’s general election due next month. Of course, this brings with it further ambiguity, however the advantage of this over Brexit purgatory is that it only lasts four weeks and could finally bring clarification of Britain’s future in the European Union.  

At the point of writing, Boris Johnson’s Conservative Party appears to be ahead in the polls to win the election – perhaps with an enhanced majority, however one must think how Theresa May began her campaign with similar confidence. Given a lack of predictability surrounding recent elections and referendums, there remains a chance that Jeremy Corbyn could be our next Prime Minister, and these two outcomes would have very different impacts on markets and sterling.  

Our investment decisions are made with a long-term view, nevertheless, with such obvious speedbumps on the road ahead, we feel it is prudent to consider how to soften any impact, particularly in relation to any movements in currencies.  

Since the introduction of Quantitative Easing (QE) we have often had a meaningful exposure to index-linked government bonds within portfolios. Index-linked bonds are loans made to the government where repayments rise in line with inflation. They offer protection against inflation that may have arisen as an indirect result from QE and from the inflation caused by a weaker pound on an economy which imports many goods from overseas sources. This exposure has served us well.   

Recently, the returns on the index-linked bonds have increasingly been driven by sterling moves. Should Corbyn come to power, it is widely expected that the value of the pound could fall which would serve to push up inflation expectations. If Johnson retains the keys to 10 Downing Street, he is expected to push through his Brexit deal. No matter how the deal is viewed, the general relief at Brexit moving on to the next phase is likely to see sterling recover somewhat and drive down inflation expectations.   

Considering the potential turbulence that the election and subsequent Brexit challenge could bring, we have reduced our exposure to index-linked bonds. We have split the proceeds between US Treasury Inflation Protect Securities (TIPS) and conventional UK government debt (known as ‘gilts’).  

In other news, October saw the MSCI World Index rally 2.6% on the back of the third Fed interest rate cut of this cycle. The US and China seem to be making positive progress in resolving their trade war, in time to give Donald Trump a fillip as he prepares for his next election campaign. The US reporting season has been much stronger than expected, and the world economy appears to be defying the recent gloom and demonstrating some resilience. Unemployment is falling in many regions and consumer confidence rising. It is a reminder that though the election dominates the media here, there is a wider world beyond, which is doing reasonably well, and thanks to our global approach, our clients are beneficiaries.

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