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18 July 2022

Market Round-Up

After Boris Johnson’s unsurprising resignation, the Conservative leadership race has begun. Of the 11 or so initial candidates for the top job in government, only two or three are realistically potential winners. While most candidates agree that tax and spending cuts are the way forward for the UK, they have already locked horns over the degree to the extent and timing of such cuts. The most aggressive of pledges has come from the newly appointed Chancellor Nadhim Zahawi, who, despite being no longer in the running for the top job, epitomises many of the Conservatives’ beliefs. Zahawi positioned himself as an ultra-low tax, low-spending candidate. He pledged a 2p cut to income tax by 2024, while also suspending all VAT and green levies on energy bills for two years and blocking the scheduled increase in corporation tax. This would have been funded by a 20% cut to every government department’s costs which would have come from a combination of staffing layoffs and departmental spending curtails.

At the time of writing, however, early favourite Rishi Sunak leads the way with 28% of the vote as the former Chancellor launches his campaign on what he sees as a more realistic approach to governing. Sunak favors a far less aggressive fiscal stance, ruling out immediate tax cuts and instead opting for a strategy to stamp out inflation before focusing on tax cuts, which he views as potentially inflationary. The ex-Chancellor has hit back at his lower-tax rivals, accusing them of telling “fairy tales” in order to win the vote at a time when the UK public purse is as stretched as it’s ever been.

Whoever is elected, the key long-term objective for the party is likely to focus on lower taxes. This is expected to provide a boost to companies and, by association, markets. However, the impact on governmental departments is likely to be high, potentially causing more strain on already strained resources. The new leader will also likely need to focus on restoring both credibility and stability to the Conservative party which may entail repairing relationships with the EU and resuming UK-US trade talks amongst others, all to help improve the Tories’ reputation, which based on opinion polls, stands at nearly a three-year low of 31%.

Rather surprisingly, commodity prices have continued their month long decline last week, as fears over a global recession bite. After hitting a June high of US$123.58, Brent crude fell below US$100 per barrel in mid-July, with other metals and mined products also succumbing to falls. Given the heightened risk of recession that is being priced into markets, cyclical industries such as energy and mining are often the first to react negatively to such news. This is due to their high sensitivity of earnings to economic conditions, i.e., when the economy is booming, such companies tend to perform very well. On the other hand, however, when the economy is entering a recession, or at least is thought to be in the short/medium-term, cyclical stocks tend to underperform the market. This comes despite continued commodity supply shortages and supply chain issues, mainly caused by Russia’s invasion of Ukraine but also more recently by a potential strike from gas workers in Norway, one of the UK’s largest gas providers.

There are also questions over whether Russia will reopen the Nord Stream gas pipeline to full capacity after its scheduled maintenance, which is due to end on 21st July. Any partial or full shutdown after this date will, in all likelihood, cause prices to reverse their downwards course and reach new highs. As such, many across Europe, especially in Germany, will be waiting and hoping that the Russians resume gas deliveries or otherwise face a potential rationing during the winter months.

Please note that this communication is for information only and does not constitute a recommendation to buy or sell the shares of the investments mentioned. The value of investments and any income derived from them may go down as well as up and you could get back less than you invested.
 
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