UK shares won 8217 t stay fazed by surprise election

For British stock markets, the surprise announcement of a general election for 8th June is unlikely to stoke huge and sustained volatility, though investors are making clear that the news is unwelcome.

Sterling votes for an election

That’s because the immediate wider market reaction has been to bid sterling higher and, with the long-standing inverse correlation between the UK stock market and sterling tightened after the pound plunged to a 31-year low after the Brexit vote, its rally by as much 200 points on Tuesday is hitting London shares.

Cable remained at its highest in four months at the time of writing and the FTSE 100 was down by the most since the Brexit vote. In fact of course, sterling’s rise has been in progress for much of the year, with Tuesday’s moves taking the pound up 4.9% on a trade-weighted basis so far in 2017.  In other words, across rates in which the UK does most of its business in 2017, about a quarter of the advantage enjoyed by large UK-listed companies from sterling’s valuation has been removed.

It’s one of the reasons why the FTSE 100 is underperforming almost all major peers so far this year, with a paltry rise of 0.8%. However, whilst the UK index is heavier than its U.S. counterparts, it is certainly not out of line with the transatlantic trend. The FTSE’s dollar tie means that it has also simply been tracking faltering U.S. markets as they re-rate the perceived ability of the U.S. administration to swiftly push through growth-inducing fiscal and deregulatory measures. Treasury Secretary Mnuchin’s comment on Monday that the target to get tax reforms through Congress and on President Donald Trump’s desk before August was “highly aggressive and not realistic at this point” underlines that investor hopes of accelerated economic growth are unlikely to be fulfilled this year.

99 problems

The Treasury Secretary also offered a more nuanced take of the administration’s view on the strong dollar, saying that “over long periods of time the strength of the dollar is a good thing”. In many ways, Mnuchin was reacting rather than leading. And it’s notable that one of the FTSE’s most greenback-sensitive sectors, the mining industry has been less sure-footed since February than last year, when it advanced 70%. There’s a link to the souring ‘reflation’ trade here as well, given that slippage in mining stocks accelerated on Tuesday on news that iron ore stockpiles in China had risen to a 3-month high, tipping spot and futures prices in the commodity lower.

In a sense then, whilst Britain’s political backdrop is a vital part of the geopolitical framework for UK shares, it may be retaking its traditional place in investors’ reckoning, which is somewhat behind the top priorities. It’s another part of the normalisation process since the mayhem markets saw on the day after the Brexit vote, which in itself raised the bar for the type of event that can now be expected to trigger severe equities volatility. The cliché about markets’ distaste for uncertainty is, after all, ambivalent for UK shares right now. A poll on Tuesday gave the ruling Conservative Party its strongest lead with voters for 34 years, as good as ensuring a seamless transition to the next government on the 8th June.

The UK stock market may indeed have 99 problems, and more, but after last summer’s dramas, political stability may no longer be one of them.

• From a technical analysis perspective, in theory, for the FTSE 100 at least, after Tuesday’s sell-off—which extends the index’s fall over the past month to above 4%—the line of least resistance is higher
• Taking the trade-able futures version of the index as our reference point, we note the prounonced zone of support, which was formerly resistance, between 7038-7081. As support, it was tested between 23^rd January and 3^rd February, after which the market revived
• With the market’s most dominant trend, for the last 14 months at least, pointing higher—even including its reaction after the Brexit vote—there’s little chance that its sharpest decline since 24^th June will succeed in destabilising it where Brexit failed
• It’s also worth noting that after having touched, on 13^th January, some of its most overbought levels since May 2013, it has since failed to get as overheated. To a large extent, that removes some concerns about over-valuation, and paves the way for an upward reversal, if and when sentiment revives
• The futures index has however broken a shorter-term support line around 7200, suggesting increased difficulty in correcting Tuesday’s down move very easily
• This places greater importance on the aforementioned 7038-7081 support. Should that barrier break, much of the optimism we express could be misplaced
• In short, whilst the market has bought every sharp sell-off in the blue-chip index for more than a year, there’s obviously no guarantee that it will do so on this occasion. However, our best guess is that the pattern will remain intact for the foreseeable future

DAILY CHART: FTSE FUTURES INDEX

Source: Thomson Reuters and City Index/Please click image to enlarge