UK elections: a very narrow margin for Theresa May

Theresa May has currently a majority of 5 conservative seats in the parliament. This is a very narrow margin, which means she has to have the entire Tory party on board in order to be able to pass legislation.

Moreover, since the UK’s referendum about the EU membership in particular (but even before) the conservative party is split between Pro European MP’s and “Brexiteers”. This split between the ruling part makes it very difficult for Theresa May to negotiate the terms of Brexit.

Given this difficulty and given the fact that that her popularity was quite high i.e. the tory party was leading in the opinion polls by a meaningful margin, Theresa may decided to call an early general election. At the time of her decision the lead in the polls amounted to 100 extra tory seats in parliament. If she were to realise this result, she would be able to start negotiating with the european counterparts in a more flexible way (Without having to depend on the demands of the Brexiteers in the tory party)

As it happens this projected majority of 100 seats is shrinking, and given some tactical mistakes that she made in the run up to the election the chances are high that she might only lead with 30 – 50 seats of majority. Which will reduce her negotiation flexibility quite meaningfully. More importantly, the market is now coming to terms with the fact that the election result might be much narrower than initially though, as a consequence of that Sterling (the pressure Valve of the UK) has seen pronounced weakness in recent weeks, while UK equities did rather well (because of a weak sterling) we would expect this to continue in the run up to the election.

Our base case scenario remains that she will take the election, but with a narrower margin than what was expected. Thereby disappointing market expectations. We believe there is a tail risk of a hung parliament, which means that neither part has sufficient seats to have a majority, we assign a low probability to that. Yet such an outcome would have a severe impact on all UK asset classes, in particular Sterling. It would also most likely force Theresa May to step down as Prime Minister. And most importantly it would increase the risk of negotiations between the UK and Europe to end without any deal substantially.

Hartwig Kos – Vice-CIO, Co-Head Multi-Asset Team – SYZ Asset Management