Waiting for BoJo

Prime Minister Theresa May’s exit from the political stage has been long-expected. Now that she is finally resigning this Friday (notwithstanding her potentially awkward final meeting with US President Donald Trump), it would appear that the UK and European Union (EU) see it as highly probable that BoJo (Boris Johnson) will take the leadership reins in Westminster.

The whole Brexit process has echoes of Samuel Beckett’s tragi-comic play ‘Waiting for Godot’, with lots of angst-ridden words but very little movement. From one day to the next, the pattern appears to repeat itself, but with darker undertones, and a growing sense of futility. “Nothing happens. Nobody comes, nobody goes. It’s awful”.

Leadership contest

Former Foreign Secretary and Brexiteer Boris Johnson is currently the clear favourite to succeed Mrs May, ahead of a raft of candidates jockeying for position. Indeed, he has been heavily endorsed by Mr Trump ahead of his State visit to the UK. Johnson is much more popular with the Conservative grass roots membership than with his fellow MPs, so the biggest obstacle to him becoming the next UK prime minister is ensuring he makes the final two in a probable series of elimination votes by Conservative MPs, from which the party members will choose a new party leader and hence prime minister. Recent history, however, has shown that the front runner for the Conservative crown is often surprisingly defeated. Whatever the outcome, it seems unlikely this time around that a new leader can be put in place without a run-off vote (as happened in 2016), so more precious time will be wasted as the clock ticks down to 31 October – the current deadline set for the UK’s potential departure from the EU.

Meanwhile, as business leaders and investors wearily watch the Theatre of the Absurd in Westminster, the UK economy is likely to remain stuck in the slow lane at best, less able to withstand external shocks such as escalating global trade wars. As of 4 June, sterling had weakened by 2.9% against the euro and 3.7% against the US dollar since 10 April – the date on which the UK was granted the extension to 31 October, as the prospects of a quick agreed exit from the EU evaporated. Risks of a ‘no-deal’ Brexit (either as a policy choice or by accident) have risen again, and so too has the risk of a general election. Both of these prospects are likely to keep sterling on the back foot.

Decline in yields

In terms of bond markets, 10-year gilt yields have declined by 0.2% over the same period, but yields on US Treasuries and German bunds have also declined, reflecting fears of an escalation in the trade war between China and the US. Gilts should outperform other UK assets as the saga drags on, but heightened political risks may make them less attractive than other safe-haven government bonds, especially to international investors, given the UK’s currency volatility. Were investors to price in the higher probability of a general election leading to a Labour government, this would be likely to put downward pressure on sterling, but upward and steepening pressure on the gilt curve, as a Labour government looks intent on pursuing significantly higher public spending, more radical economic policies, and the nationalisation of key industries.

While the downside for equity investors in utilities in such a scenario seems clear cut, for utility bondholders the potential outcomes appear twofold, depending upon financing structures and the level of any implicit or explicit government support of their debt.

Spoiler alert (and potentially bad news for supporters of a ‘hard’ Brexit): Godot never arrives, and the play ends with the following lines and stage instruction:

Vladimir: “Well? Shall we go?”

Estragon: “Yes, let’s go.”

They do not move.

Authors

Howard Cunningham

Portfolio manager, Fixed Income team