With the UK general elections on December 12th fast approaching, investors are battling to get a grip of how the various potential outcomes might impact the UK economy and as a result, the path of the British Pound. General elections always present the risk of volatility and given the importance of these elections to the likely outcome of Brexit, we are seeing a much greater risk of volatility than usual.
How Do the Elections Work?
Ad this is a general election, the UK will be voting for an MP in each of the 650 constituencies who will take a seat in the House of Commons. Whichever party receives the most overall votes will then see its leader become PM. Important to note, is the fact that the UK operates on a first-past-the-post system. This means that whichever candidate gets the most votes will win the seat in that constituency rather than needing to gain an absolute majority. Consequently, this means that it is not easy to translate the overall voting level int the number of seats gained in parliament. The 2015 general elections was a clear example of this as the Conservative party won only 31% of the national vote but gained 51% of the seats in government, giving it a majority.
As always with elections, the main tool used by investors to gauge the most likely outcome is polling. Looking at the average of all the polls over the last week, the Conservative party is currently ahead with 43% of the vote, trailed by Labour party in second place with 33% of the vote. Interestingly, this puts the Conservative party ahead of where they have been in both of the past elections since 2015.
Conservative Party Win Majority
Currently, the market is focusing on a Conservative party win as its main outcome. In this scenario, where the Conservative party gains a majority in parliament and Boris Johnson remains PM, the market expects that Johnson’s Brexit deal will be passed and the UK will leave the EU, as planned on or by January 31st next year. Such an outcome would be the least damaging Brexit scenario and would likely see the British Pound trading higher as part of a broader relief rally. An orderly Brexit, leading to fuller discussions over the future of trade between the EU and Uk would likely be the most economically palatable outcome here. Finally offering some clarity, such an outcome would also like avoid the need for a Bank of England rate cut. The BOE has warned recently that in the event of prolonged uncertainty, or the disastrous fall-out from a no-deal Brexit, it might be forced to cut rates to backstop the economy. Focus would then shift onto UK-Eu trade negotiations. The current deal highlights an 11 month transition period in which to negotiate terms. However, given how long the initial negotiations took, there is a risk that this deadline would be extended, keeping the UK in the Eu for longer while trade terms are agreed.
Conservative Party Win Without a Majority
Such an outcome would be reminiscent of the last general election in 2017 and would once again call for a coalition government. In the event of a hung parliament and, subsequently, another coalition government, uncertainty would be extended. Given the wide range of diverging views among the other parties on how Brexit should be handled, the most likely outcome here would be that Brexit would once again be delayed beyond the current January 31st deadline. In such circumstances, the BOE might be forced to follow through with a rate cut In order to keep the economy buffered against the ongoing damage from Brexit uncertainty. The UK manufacturing sector has been hard hit by the US-Sino trade war as well as Brexit and uncertainty and a further Brexit delay would likely exacerbate this negative impact, requiring action from the BOE. In such circumstances, the British Pound would likely be lower over the short term.
It is very important to note here, that a Conservative-led coalition government would equally see an increased chance of a no-deal Brexit. If the government is unable to pass the current Brexit deal by January 31st, the UK faces once again crashing out of the EU without a deal. With this in mind, investors will need to keep a close eye on the progress of debates following the elections with a view to how the Pound will trade over January. If a deal once again looks unlikely to be passed, the Pound could move sharply lower.
Labour Party Win Without a Majority
Currently viewed as the wild-card scenario, a Labour-led coalition government would likely cause huge volatility in the British Pound and raise serious questions over the future of the UK economy. Labour has said that it supports offering the UK a second referendum on whether to ratify a new Brexit deal (renegotiated by Labour) or remain in the EU. In these circumstances it is possible that the British Pound could trade higher given the increased likelihood that Brexit could actually be cancelled via a second referendum. However, given some of the more controversial parts of Labour’s proposed economic policy changes (including nationalisation of certain industries as well as increasing corporation tax) the medium – long term impact might see the Pound lower through capital outflows. In such conditions, the BOE might once again be forced to cut rates in order to backstop the economy.
Technical & Trade Views
EURGBP (Bearish, below .8450)
EURGBP From a technical and trading perspective. Price has broken down below the monthly S1 at .8450 to trade new 2019 lows. With the longer-term VWAP negative, the near term bias remains in favour of further losses. Any retest of the broken fomer-2019 lows should offer resistance, keeping further downside in play. However, any surprise outcome in the elections on Thursday could see price quickly spike higher on GBP weakness, bringing price back up to test the yearly S1 at .8699.
Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.
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Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.
Past performance is not indicative of future results.
High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 75% and 75% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.
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Patrick has been involved in the financial markets for well over a decade as a self-educated professional trader and money manager. Flitting between the roles of market commentator, analyst and mentor, Patrick has improved the technical skills and psychological stance of literally hundreds of traders – coaching them to become savvy market operators!