Sounded after the announcement of the costly budgetary plans of the government of Liz Truss, the British markets seem to be coming to their senses. With interest rates over 4% and the pound at rock bottom, is it time to take advantage?
Appointed Prime Minister on September 6, Liz Truss had barely 17 days to put the financial markets on their backs. The fault above all with its “mini-budget” presented on September 23. The two key measures were the freezing of energy bills, for a total cost estimated at 200 billion pounds sterling, and a vast tax reduction plan of 45 billion pounds, without financing in return. In a market already overheated by inflation, this announcement caused rates to take off and plunge the pound. The Bank of England (BoE) had thus been forced to intervene, even encouraging Liz Truss to get rid of her Chancellor of the Exchequer, Kwasi Kwarteng, and her tax reform. Energy measures had also been revised downwards. But that won’t be enough. Less than 24 hours after the resignation of Suella Braverman, Minister of the Interior, Liz Truss also ended up throwing in the towel, announcing her departure from 10 Downing Street.
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Appointed Prime Minister on September 6, Liz Truss had barely 17 days to put the financial markets on their backs. The fault above all with its “mini-budget” presented on September 23. The two key measures were the freezing of energy bills, for a total cost estimated at 200 billion pounds sterling, and a vast tax reduction plan of 45 billion pounds, without financing in return. In a market already overheated by inflation, this announcement caused rates to take off and plunge the pound. The Bank of England (BoE) had thus been forced to intervene, even encouraging Liz Truss to get rid of her Chancellor of the Exchequer, Kwasi Kwarteng, and her tax reform. Energy measures had also been revised downwards. But that won’t be enough. Less than 24 hours after the resignation of Suella Braverman, Minister of the Interior, Liz Truss also ended up throwing in the towel, announcing her departure from 10 Downing Street. This flip-flop, combined with temporary bond buybacks by the BoE, stabilized the London markets. But the episode left traces. British rates are still hovering around 4% for almost all maturities, double what they were three months ago. And the pound sterling vegetates near its lows at 1.14 euros, a loss of 20% in seven years. Against the dollar, the plunge is even 35% and the pound is at its lowest since 1985. By updating the figures of the latest Big Mac Index, a currency valuation method based on the prices of the famous hamburger, the valuation of the pound is 8% against the euro and 15% against the dollar. The depreciation of the pound stems in particular from capital withdrawals by foreign investors. According to Bank of America’s September survey of international fund managers, UK equities are the most underweight asset among major global financial markets. And the managers are also limiting their positions in British bonds. “Investors tell us they see the UK as simply not an option in the face of such government chaos,” Joachim Klement of asset manager Liberum Capital wrote in early October. Now, the political situation has cleared up somewhat with the resignation of Liz Truss. Until this weekend, two candidates shared the favors of the bookmakers: Rishi Sunak, Chancellor of the Exchequer from 2020 to 2022 and Penny Mordaunt . The latter was little known until last summer, before becoming famous during the race to replace Boris Johnson. But his skills in economics and budgeting remained uncertain. The verdict fell on Monday: it was Rishi Sunak who was chosen by the conservative party to take over the post of Prime Minister. Enjoying the favors of the markets, the man is best known for his skills in economics and his budgetary conservatism, having notably warned Liz Truss of the devastating consequences of his mini-budget. As Azad Zangana, senior European economist at Schroders, reminds us, the future head of government will quickly have a lot to do: Jeremy Hunt, the new Chancellor of the Exchequer, must present a complete budget as of October 31… Last week, the markets were already reacting positively and the first bargain hunters are beginning to take an interest in the United Kingdom, like certain hedge funds. “I can’t tell you how the pound will move in the next few days, weeks or months, but over the next one to three years the pound will be significantly higher against the dollar,” said Thomas Hayes, chairman of Great Hill Capital. Stephen Diggle, of Vulpes Investment Management, is also betting on the pound again, considering the fall of the last few months exaggerated. “In a way, I think it’s still because of Brexit… How quickly critics of the mini-budget, like Larry Summers (economist and former US treasury secretary, editor’s note), started to talking about Brexit is very revealing” and contributed to the markets becoming “irrationally negative”. In the short term, however, the vast majority of analysts believe that the pound sterling should remain volatile. They therefore expect the government’s change of course to have an impact above all on rates. John Higgins, chief market economist at UK research firm Capital Economics, points out that “fiscal policy is likely to be tighter in the future than expected before the mini-budget, to fill a bigger hole than expected in public finances due to weaker economic growth”. However, if the new Prime Minister “wants to restore stability and implement Jeremy Hunt’s budget plan, this means that the peak in rates will be lower than what is expected”, and engages Kit Juckes, of Société Générale. Concretely, the BoE should raise its key rate from 2.25% to 3% during its monetary policy meeting in early November. But then she might slow down. A few weeks ago, the markets anticipated that its key rate would reach up to 6% next year. Today, the average anticipation has dropped to around 5%. Tighter public finances, the slowing economy, a stabilization of the pound and a lull in energy prices should indeed help curb inflation which reached 10.1% in September in the Kingdom -United. In this context, Luke Bartholomew, senior economist at Abrn, is even more optimistic. “We expect the rate to be at 4.5% at the start of next year. The BoE could start cutting rates in the second half of the year.” This seems all the more plausible since Ben Broadbent, a member of the BoE, expressed concern last week about the consequences of the rate hike on the economy. Such a scenario would bode well for UK markets and bonds in particular. Yields on gilts (sovereign bonds) should then ease over the next year, supporting prices. For Rishi Mishra, analyst at Futures First, the recent events could even have a “long-term positive impact for both the pound and the gilts, because this episode will remind every candidate Prime Minister not to undermine the credibility of the government. by laying out wacky spending plans”. In concrete terms, how can you take advantage of the stabilization and the more favorable outlook for the British markets for the next few years? A first fairly simple option is to open an account in pounds sterling with your banker. To earn interest, you will probably need to opt for a term account. However, the costs can be substantial and the constraints quite significant. KBC (Brussels), for example, only offers its accounts in pounds for periods of less than one year. From an investment perspective, bonds appear more appropriate. As this market is not very accessible to individuals, you can opt for a fund (see the table below). In an environment where rates could peak, this type of product which reinvests permanently makes it possible to benefit more from the potential future recovery in prices. To illustrate the magnitude of such movements (for longer-term securities), the price of the benchmark 30-year sovereign bond has fallen by half since December 2021 following the rise in the interest yield of 1 % to 3%. The other option is to take an interest in the Stock Exchanges with two radically different approaches. The first is to favor large British companies active abroad such as GlaxoSmithKline, Unilever, BP, Shell, Diageo or Rio Tinto. These giants are grouped together in the FTSE 100 index, whose members make 65% of their turnover outside the United Kingdom, according to Ben Laidler of the eToro trading platform. Mechanically, their profits are supported by the simple conversion of profits made outside the UK into pounds. An element that investors have begun to integrate, the FTSE having limited its losses to 7% since the beginning of the year, three times less than the world average. Especially since the big British shares are cheap. The MSCI United Kingdom index, quite comparable to the FTSE 100, thus shows a dividend yield of more than 4% and an expected price/earnings ratio of 8.6, a discount of 38% compared to the MSCI world index. World. To take advantage of these high coupons, you can opt for the index fund listed on Euronext Amsterdam iShares Core FTSE 100 UCITS (ISIN: IE0005042456; ISFA; annual fee of 0.07%). The second approach is to bet on a recovery of the British economy, thanks to a lull in the financial markets and the prospect of a decline in inflation and interest rates. The most appropriate index is then the FTSE 250, which globally brings together medium-sized companies. According to Ben Laidler, activities abroad represent on average only 20% of turnover. This riskier strategy is potentially more lucrative as the FTSE has fallen 27% since the start of the year. Within the FTSE 250, there are companies such as the cruise line Carnival, the online gambling specialist 888 Holdings, Marks & Spencer, and many real estate investment companies. To invest in the FTSE 250, you can turn to the iShares FTSE 250 UCITS ETF (ISIN: IE00B00FV128, MIDD, annual fee 0.40%) listed on the London Stock Exchange.
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