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Market Bulletin (27/06/2017)

Market Bulletin (27/06/2017)

Crowning moment


“Uneasy lies the head that wears a crown,” says King Henry in Shakespeare’s Henry IV Part 2. Last week Elizabeth II appeared to take the warning literally, breaking with the habit of 43 years by not wearing her crown for the State Opening of Parliament – she also donned a day dress instead of the usual robes of state.


Minority government it may be, but the prime minister took the unusual step of setting the term length of the new parliament to two years instead of one, saying she wished to provide for unbroken parliamentary scrutiny of EU exit legislation, ahead of the UK’s departure deadline of 29 March 2019. She has eight EU exit bills to get passed before then. As of this week, she at least has the DUP on her side, thanks to a confidence and supply deal struck on Monday morning.


While the House of Lords is ultimately unlikely to block the eight bills, the Commons provides a range of opponents ready to debate and amend them. Labour has said its priorities are jobs and the economy; the Liberal Democrats tabled an amendment that calls for the UK to stay in the single market; and some Tory Remainer MPs are reported to be exerting private pressure. Moreover, SNP ministers in Holyrood said they could block ratification of Theresa May’s Repeal Bill if many of the powers reclaimed from Brussels are not handed to Holyrood – the UK prime minister said the bill would need Holyrood’s approval.


The election outcome left the Queen’s Speech somewhat denuded – plans to revive grammar schools, hold a vote on foxhunting, end free school meals for infants and curb pensioner benefits were all discarded. But the accompanying notes did confirm that the government will implement three Finance Bills, bringing the first to the Commons this summer. The broader programme will include legislation for changes to National Insurance contributions announced in the Budget and Autumn Statement of 2016 but, of course, not the Class 4 contributions reform announced in the Spring Budget this year. Given the parliamentary balance, much remains uncertain, for savers as for investors, but the forthcoming Finance Bills may offer clarification – and reasons to act.


Another chapter opened for Theresa May in Brussels last week, where exit negotiations officially began, although it was David Davis and Michel Barnier who kicked off proceedings. Their respective gifts – a book on mountaineering and a walking stick – suggested a hard road ahead. First blood went to Barnier, as the UK dropped its previous insistence that the trade deal be agreed alongside the exit bill and citizens’ rights. Instead, the UK will follow the EU’s negotiating ‘sequencing’. Theresa May, arriving later in the week, made what she called a “fair and serious” offer on citizens’ rights, one which keeps some of the rights for EU citizens in the UK, and withdraws others. Donald Tusk said the offer was “below our expectations”.


Disagreement of a different kind appeared to be gaining momentum at the Bank of England. Two weeks ago, the Bank’s Monetary Policy Committee (MPC) voted to leave interest rates unchanged by a majority of five to three. Last week, the governor delivered his delayed Mansion House speech, in which he warned that weak consumer demand and sluggish wage growth made further rises risky, especially because “the reality of Brexit negotiations” was yet to impact the economy. Later in the week Andy Haldane, the Bank’s chief economist and a fellow member of the MPC, said that UK interest rates would have to rise later this year to nip inflation in the bud and ensure a more severe rise wouldn’t be needed at a later date. His view is much changed from July last year, when he said a rate drop might be needed.


“The Bank of England reckons that a15% currency depreciation translates into a one-off 3% increase in prices; although this can take some time to feed through as companies’ currency hedges roll off,” said Nick Purves of RWC Partners. “However, oil prices are now below where they were 12 months ago and this should help to dampen inflation in the coming months. It is not difficult to see therefore why the Bank of England has been reluctant to raise interest rates, despite the fact that the economy has performed better than had been expected at the time of the Brexit referendum.”


The other headline speaker at Mansion House last week was the chancellor. Having assured his fellow diners that Theresa May had not “locked [him] in a cupboard” during the election campaign, Philip Hammond went on to say that he intended to balance the budget by 2025 through continued restraint. He was buoyed later in the week by news that government borrowing fell to its lowest level in a decade in May, helped by improved VAT, Income Tax and Stamp Duty revenues. He also said he was pushing for a business-friendly Brexit that would not cause undue damage to UK financial services.


Index we trust


In the more immediate term, however, investors were focused on the oil price. Last week Brent crude dipped below $45 a barrel for the first time this year, taking the energy-sensitive FTSE 100 down with it. The index slipped 0.53% over the five-day period, although healthcare stocks were also to blame. The S&P 500 also suffered midweek, although oil’s Friday rally meant it ended the period up 0.24%.


Meanwhile, the Eurofirst 300 dropped 0.21%. In fact, business confidence in the eurozone remains at an extended high – the last three months represent the strongest quarterly performance since 2011. Consumer confidence in the currency area hit a 16-year high last week, while French first-quarter growth was revised up to 0.5%. The CAC Mid 60, which charts the fortunes of 60 mid-sized French companies, has been trading around record highs ever since Macron’s rise.


Attention was focused on very different developments in Italy, where the government chose to bail out two Venetian banks at a cost of €5.2 billion. The banks’ surviving ‘good’ assets were formally acquired by Intesa Sanpaolo over the weekend.


“The crisis of the weaker Italian banks has been a difficult conundrum to resolve,” said Stuart Mitchell of S. W. Mitchell Capital. “The politicians were desperate to avoid a full ECB resolution because this would have led to the politically impossible result of ‘wiping out’ all the banks’ depositors. At the same time, the stronger banks were unwilling to take on the risk of the non-performing loan portfolios. But it seems that we have got a very good solution. The ECB resolution board has not considered the two banks to be systemic, so that they can be liquidated under the ‘burden sharing model’ thus avoiding damaging depositors. Intesa has agreed to take on the assets but only if the state injects capital into Intesa to bring the Tier 1 ratio to 12.5%.”


Yet it was in China that index developments caused greatest excitement last week, as mainland-listed Chinese stocks were finally admitted to MSCI World, the most widely used index for global stocks. Admittedly, just 222 companies were admitted, and even then they were only accorded a weighting of 5% of their market value; but a door has been unlocked. A reminder to be cautious came from China’s bank regulator last week, which ordered Chinese lenders to analyse the “systemic risk” posed by some of the country’s larger companies that have been making purchases abroad. The result was that some foreign companies recently acquired by Chinese buyers saw their stock prices slip, notably in the UK.



RWC Partners and S. W. Mitchell Capital are fund managers for St. James’s Place.


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