Financial markets hate uncertainty, particularly when there are significant implications for future profits and dividends. The absence of a stable regulatory background around which businesses can make important investment decisions means these are increasingly likely to be deferred or cancelled.
Small wonder, then, that Labour leader Ed Miliband’s promise that a future Labour government would intervene to freeze energy prices sent a shiver throughout the fund management industry.
The general consensus among fund managers contacted by Investment Adviser is that, without new investment, the risk of power shortages, black-outs and substantial spikes in energy prices are highly likely.
Jan Luthman, co-manager of the Liontrust Macro Equity Income fund, dismisses most politicians’ pre-election, populist promises as “short-lived whimsies”, but regards Mr Miliband’s declared intention to cap energy prices as potentially deeply damaging to the economy.
Michael Clark, manager of the Fidelity MoneyBuilder Dividend fund, says the possibility of any government meddling in the energy market is definitely a concern. “There has to be some acceptance from all political parties that the lights have to be kept on,” he adds.
Martin Cholwill, manager of the Royal London UK Equity Income fund, says: “It is difficult for energy companies to know how to respond to [the threat of a price cap] effectively. They face rising costs from various green initiatives, for which the consumer is paying by way of higher prices. An inability to pass on these additional costs via price rises risks a squeeze on profits. Centrica earns a good profit margin on its energy supply business, given that it effectively has little capital employed.”
Rathbone Unit Trust Management chief investment officer Julian Chillingworth has decided to take some money out of the water sector, adding that energy firms SSE and Centrica “will be in the cross hairs of the government and the opposition”.
He adds: “We’ve already seen the government have a first swipe at the gaming industry and it is having ongoing conversations about fixed betting terminals. Banking is very much in the regulatory eye and we currently don’t own any banks, due to profitability and regulatory intervention.”
More broadly, fund managers also fear the gaming industry, banking, insurers and tobacco companies will continue to be vulnerable to political interference.
Schroders’ Philip Matthews – while not making specific moves in his UK Alpha Plus fund – highlights “political noise” as a headwind for UK markets in the coming months.
“From a UK standpoint, one headwind [for markets] is political issues – the extent to which politicians are getting in the way of the outlook for certain sectors, whether in energy, utilities or gambling,” he says. “We’re moving into a period where the election is not that far away so political noise is going to increase over the next year or so.”
Others fear that a Labour administration would be less ‘business-friendly’ than the current coalition, citing sizeable increases in the minimum wage as a risk for many low-margin industries such as food and general retail.
Jupiter UK equity manager Alastair Gunn says: “From what we have seen so far, Labour appears ideologically opposed to outsourcing, which suggests the support services sector will encounter another period of elevated uncertainty.”
Mr Cholwill is cautious about bus and rail stocks because subsidies are a big part of running the railway system and company profits would be wiped out without them. “Who will bear the burden if planned fare rises are curtailed? This poses a real threat to company profits,” he says.
Mr Luthman says insurers are under “very public political pressure” to accommodate claimants for flood and storm damage and to maintain cover for those living or working in areas that are now, in commercial terms, uninsurable.
Similarly, he says industries with significant exposure to “ethically contentious” areas of the world may be hampered by legislation intended to discourage bribery and corruption, but which has placed many of the most rapidly growing economies of the world beyond the commercial pale.
Mr Luthman also warns that tobacco companies’ profit margins will come under increasing pressure, due to legislation restricting advertising and packaging, hampering the promotion of premium brands. Last year, he removed all exposure to the sector from his portfolios, opting instead for pharmaceutical firms.
Others are more sanguine. Andrew Goldberg, market strategist at JPMorgan Asset Management, says investors should not be distracted by political noise and that a highly charged political environment in the US last year about reducing the size of its bond buying programme quantitative easing and the debt ceiling did little to damage the US equity market.
Fidelity’s Mr Clark admits that although he has reduced his holdings in SSE and Centrica he thinks the market overreacted to the Labour threat and the risk of price caps is already in the share price.
Furniture:
Scotland: Independence debate also creates uncertainty
The Scottish referendum in September threatens to be another unwelcome source of uncertainty and instability, especially with debate between Scottish first minister Alex Salmond and UK politicians heating up.
“People don’t know what the terms of separation will be if Scotland separates,” says Fidelity’s Michael Clark. “There’s a danger in rushing for the exit before you really know. If you’re going to make a heavy investment, particularly in Scotland, you might as well wait and see which way it goes.”
Schroders’ Philip Matthews (pictured) adds: “People think at the moment [Scottish independence] is not going to happen. You’ve got to be aware when the market doesn’t discount any risks –the problem is always going to come from somewhere unexpected.
