Election traction and key market catalysts

UK Prime Minister Rishi Sunak’s decision to call a snap general election for early July surprised many – but how far-reaching really are the economic implications? With a Labour victory looking more than likely, Craig Hoyda, Investment Manager at abrdn, explores the implications of the snap UK election and broader political uncertainty on the global economy.

And as the first half of 2024 draws to a close, he examines how two other key market catalysts – inflation and interest rates – continue to play a pivotal role as central banks grapple with global inflationary pressures.

Election traction and market reaction

In terms of fiscal strategy, Labour’s stance closely aligns with the Conservatives, promising minimal change in fiscal policy. Any tax changes beyond those that Labour have already pledged have been ruled out. So, we're seeing very little change on the tax front and very little change to fiscal rules. As it stands a Labour victory in the upcoming UK election has already been factored into the markets, so there’s unlikely to be any unexpected market volatility come election day.

On the other hand, the upcoming US election in November does pose a risk to the global outlook. A second term for President Joe Biden would represent broad policy continuity. However, the mix of tariff, fiscal, regulatory and immigration policies that Donald Trump may pursue if he wins could cause uncertainty and result in strong inflationary pressures.

Meanwhile at the beginning of the month India’s elections delivered a surprise result, with the governing Bharatiya Janata Party (BJP) losing its majority. While Modi secured a third term as prime minister, he will be reliant on coalition partners. This should result in economic policy continuity but will curb his ability to address difficult structural challenges.

Another unexpected set of elections on the horizon are those in France. After a poor showing by his party in recent European Parliamentary elections, President Macron called legislative elections to take place on 30th June and 7th July. Financial markets, however, were wary of Macron’s electoral calculus, as fears of a Rassemblement National (RN) victory caused stock market indices to fall and French government bond yields to rise.

Inflation to moderate… in moderation

At abrdn, we anticipate further interest rate cuts as cooling inflation gives central banks more room to breathe. However, potential pitfalls remain.

The re-emergence of inflation pressures during the first half of this year in the US and elsewhere, should soon give way to a return to reducing inflation on a month-on-month basis. Core-services inflation has proved particularly sticky for several years now – but leading indicators, such as US rents, are now suggesting conditions should begin to ease. A slowing labour market is likely to help curb wage growth and falling used-car prices suggest goods disinflation will resume. Meanwhile, the latest decline in oil prices will also help bring inflation under control.

Yet, global political affairs remain unpredictable and could re-ignite inflation pressures in a way central banks are unable to anticipate. In the long run, it’s possible more shocks to supply lines from international politics and climate change could lead to inflation volatility.

Slowdown for US growth

The recent deceleration in economic activity in the US is also expected to lessen inflationary pressures. Additionally, factors such as the lagged effects of interest rate hikes, the depletion of excess savings built up during Covid lockdowns, moderating non-residential building investments, and decreased government spending have contributed to a cooling growth trajectory.

While there is a risk of a more pronounced slowdown that might slip into recession territory – the current situation appears to be more consistent with a ‘soft landing,’ where inflation is gradually reined in without causing significant economic damage.

This situation should be supportive for US equity markets, with the US corporate earnings outlook remaining strong and the technology/tech-like mega cap stock rally well supported by fundamentals. Valuations may be expensive, but they are not excessive.

Europe stabilises

We’ve seen a growth rebound in the Eurozone and UK amid positive real-income growth and improving sentiment. We’re also seeing headline inflation returning to target. As such, we expect an extended period of growth in these economies, implying a degree of convergence with the US.

For now, our UK growth forecasts remain the same in the likelihood of a new Labour government next month. This is partly because there are public-spending and political constraints on any supply-side reforms. But if the Labour Party does achieve planning liberalisation and a closer relationship with the European Union, this could boost potential growth.

The better growth situation in Europe and the UK supports their domestic equity markets but beware that many UK large cap stocks have a large proportion of their revenue sourced from overseas so currency considerations should be taken into account.

Lower rates on the horizon

We expect the global central banks to continue cutting cut rates as we move into the second half of the year and beyond. Having started its cutting cycle in June, the European Central Bank (ECB) should lower rates twice more this year. We think the Bank of England (BOE) will also start cutting in August for a total of three times in 2024. On top of that we expect the Federal Reserve (Fed) to make cuts in September and December.

For next year, we’re forecasting a roughly once-per-quarter pace of rate cuts in the US, Eurozone, and UK.

The Bank of Japan is an exception to global easing – strong wage growth and pressure on the yen mean the central bank is likely to hike rates further. But with Japan’s exit from its ‘lost’ decades of deflation still a work in progress, any rate hikes will be modest.

The global easing of monetary policy should be supportive for government bonds, especially those in Europe as the ECB has already cut and is expected to reduce rates faster than the Fed. Beware of near-term volatility, however, should inflation prints fluctuate more than expected.

EU property market on the rise

Now that interest rates have rolled over from their peak and property valuations are stabilising, we believe it’s the right time to take a fresh look at the living sector. In the wake of a price correction across the asset class and based on the sector’s underlying performance characteristics, the European living real estate market is re-emerging as a significant opportunity for investors.

Resilience should be an ongoing characteristic in the future, too – the living sector faces far fewer negative disruptors from flexible working, ecommerce, automation, or operational obsolescence through technological change. We’ll always need bathrooms, kitchens, living spaces, and a bed in which to sleep. Residential property has the clearest and simplest long-term use case of all the sectors.

China’s property challenges continue

On the other side of the coin, the Chinese real estate sector remains deeply troubled. Along with a lack of consumer confidence and very little prospect of consumers spending a large savings pool, there are major headwinds to growth. In fact, demographics and capital misallocation mean that trend growth may slow towards 4% by the end of the decade.

With that said, ongoing policy easing, including recent measures to put the property sector on firmer foundations, is helping to improve activity growth. And the gross domestic product growth target of around 5% will likely be achieved this year. Inflation has also escaped negative territory but concerns over a trade war with the US, rule out more substantial growth.

Chinese equities remain attractively valued, but domestic investors remain wary given the aforementioned uncertainty stemming from the property market.

Emerging markets and key risks

In the latter part of 2024, we anticipate that emerging market (EM) growth will continue to gain momentum due to resilient services and a pickup in manufacturing and trade. We’re already seeing headline inflation return to target and we expect Asia-Pacific central banks to wait for the start of Fed-rate cuts before easing because of possible currency pressures. We could also see better growth and inflation slowing the pace of rate cuts elsewhere but overall we expect more rate cuts over time.

As previously mentioned, the US presidential election in November is a key risk to the global outlook. The mix of tariff, fiscal, regulatory and immigration policies that Donald Trump may pursue if he wins could cause uncertainty and result in strong inflationary pressures.

Indian equities are well supported by macroeconomic fundamentals, with Modi likely to pursue further structural reforms even with a much-reduced governing majority, although valuations in large part reflect this. On the bond side, Emerging Market Local Currency debt is well supported by EM central banks being able to ease policy as inflation falls.

There’s support if you need it

If you’re not sure how market and economic events may affect your investments, or are concerned about the impact of the upcoming election, consider speaking to a financial adviser.

If you’re already an abrdn client, get in touch with your financial planner. If you don’t have an adviser, you can find out more about how our financial planning services can help you.

The information in this article should not be regarded as financial advice. Please remember that the value of investments can go down as well as up and may be worth less than was paid in. Information is based on abrdn’s understanding in June 2024.