STABILITY AND RECOVERY IN THE UK: WHAT A NEW GOVERNMENT COULD MEAN FOR UK EQUITIES
Posted on January 27th, 2025
On 4 July 2024, after 14 years watching and waiting on the sidelines, the Labour Party returned to Government with a significant majority in the House of Commons. While this marked a sea change in politics, the UK stock market’s reaction to the news was muted. It remained broadly neutral and moves in currency markets were minimal. Yet, change is afoot, so what could this new administration mean for UK equities going forward?
Firstly, in terms of context, it is important to note that around 76% of earnings from the UK equity market are derived internationally. The FTSE 100 Index is dominated by multinational companies trading in global sectors (oil and gas, mining, healthcare, consumer staples) across numerous international markets. Arguably, for many of these companies the occupant of the White House, not 10 Downing Street, is of far more relevance.
Secondly, the performance of UK equities is largely driven by its sectoral composition. The prevalence of energy and materials companies has been a drag relative to the US, which has benefitted from the stellar performance from technology companies (and its economy as a whole).
Technology makes up 26% of the S&P 500 Index (US stock market) compared to only 1% in the UK All Share Index. Thirdly, interest rates and inflation are heavily influenced by global economics and world events. For example, tightness in post-Covid supply chains and, more recently the war in Ukraine, helped to generate high inflation across international economies. With few exceptions, local governments were impotent in the face of these powerful global forces.
“All governments want to achieve faster economic growth…however it is hard to do…”
That said, the UK economy, where a proportion of the UK equity market is directly exposed, is clearly one area in which the new government, setting aside global inputs, would wish to exert influence. All governments want to achieve faster economic growth. Delivery of this goal allows them to cut taxes or spend more on public services therefore increasing their hopes of re-election. However, it is hard to do.
In theory, the Labour government wishes to create the conditions for firms and individuals to generate wealth. Those conditions are macroeconomic stability, low and stable inflation and a taxation system that is constant, on a wide tax base and not too burdensome. This climate would encourage private investment where the UK lags its competitors in certain areas. Government investment will also be important in creating the necessary infrastructure and public services.
Source: Berenberg. IMF, World Economic Outlook Database
However, fiscally Labour has little room to manoeuvre with public debt to GDP at multi-decade highs of >100% (see table above).
History shows that radical policies can prompt exaggerated and harmful reactions in fragile markets. It is fair to assume that Labour will want to avoid missteps and build a reputation for economic competence. Stability, growth and recovery will be prioritised.
While in general terms the new government’s impact may be limited, there are some specific areas where its policies can make a difference. Some changes planned by Labour are of particular relevance to certain sectors and stocks rather than the whole stock market. For example, two of the areas of influence in the UK equity market where Labour policies may make a difference are housing and energy.
Firstly, in housing, the election of a Labour government has been seen as a positive. Housing affordability should improve as rates fall, and this should unlock pent up customer demand. Pro-housing rhetoric from Labour could signal a new generation of housebuilding (although there have been numerous false dawns over the years). Planning reform as promised by the government will be the key to driving any progress on this front. The political will to make an impact is undoubtedly there.
“Planning reform as promised by the government will be the key to driving any progress on housing…”
Secondly, energy and utilities companies will be impacted by Labour’s strategy in the years to come. The government has ambitious goals to ease planning conditions and increase renewable energy. There is also support for nuclear as part of the solution to energy security.
Clean energy producers and network companies should benefit from these policies although the potential for further taxation and regulation in some specific areas may moderate levels of excitement. For example, investment in the North Sea will be hit by Labour’s decision not to issue new oil and gas licences. As always, the devil will lie in the detail.
Successive governments have failed to deliver sustained growth through long term strategic planning beyond the political cycle.
As a starting point, if the new government can provide a level of political and economic stability to the UK, this could build a foundation for recovery both in the UK economy and parts of the UK equity market. However, the ultimate direction of the UK Equity market will be largely determined by external factors.
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