Partner Article

UK Budget: portfolio impact muted

Richard Clark and Simon Patterson, private bankers at Barclays Wealth and Investment Management in Newcastle, share their post-budget views.

There were few surprises in Wednesday’s UK Budget. In UK portfolios, as globally, we continue to advise staying invested, and prefer corporate to government securities, and stocks to bonds. We doubt that the pound will be affected materially.

Further Slips in Plan A

Economic projections cut – the Office for Budget Responsibility is again (as in the Autumn Statement) just catching-up with news already built-in to private sector forecasts: GDP is expected to grow 0.6% in 2013 for example, compared to a previous forecast of 1.2%.

Deficit and debt ratio forecasts raised further – largely reflecting slower economic growth. This is not the expansionary Plan B that some have been urging, but simply an accidentally-looser Plan A. Fiscal austerity remains the name of the game.

Miscellaneous measures to boost job creation, supply side and fairness – for example, an Employment Allowance to reduce employer National Insurance charges; a lowered rate of corporation tax from 2015/16; a big increase in personal allowances, and a freeze on fuel duty. Set against this, departmental spending has been trimmed in 2013/14 and 2014/15, and there are revenue-raising measures focused on more efficient tax collection.

Monetary policy review – no change to the 2% inflation target, but the Bank is being asked to consider the merits of forward guidance and intermediate thresholds in its operations, and to make clearer the trade-offs involved in trying to achieve the inflation target. The new Governor has been consulted. In theory, little has changed – and a review was expected. In practice, viewed alongside the further slippage in the debt profile, this may amplify the growing suspicion in the currency markets in particular of late that the UK is ‘going soft’ on inflation, but we doubt it will do so materially.

Overall, the net policy changes, as a percentage of GDP, are negligible and will have little immediate impact on growth. The rating agencies may not like the further slippage in the debt ratio and the downgraded growth forecasts, but (as with the Moody’s downgrade) any changes will effectively be closing the stable door long after the horse has bolted.

Background

The UK government is sticking grimly to its battered ‘Plan A’. The latest budget makes no concession to those arguing for a big fiscal stimulus to boost growth. Instead, the main focus remains on deficit reduction, albeit with a further slippage in the schedule: the public net debt/GDP ratio is now projected to peak in 2016/17, a year later and almost 6% of GDP higher than projected in December’s Autumn Statement (and 3 years later, and 15% of GDP higher, than originally suggested in 2010). Nonetheless, we think the government will likely retain the confidence of the markets.

Plan A need not condemn the UK to recession, or even stagnation. The headwind from fiscal tightening is fading as the biggest tax increases move further into the past. Moreover, the private sector’s saving ratio has risen pre-emptively, providing a buffer to support spending as incomes are squeezed, and the monetary climate is much friendlier to growth (a more competitive pound is helping further in this respect). Both these factors have helped the UK weather a tough fiscal climate in the past. Employment data suggest that the economy is not quite as fragile as the GDP numbers make it appear.

Investment conclusion

We still think the UK stock market is likely to lag the US and Continental Europe, but sterling’s recent weakness will boost the substantial international earnings of companies quoted on the UK exchange, and it is a closer call than it was. And even after their rally, we still expect UK stocks to outperform gilts tactically and strategically, and by more than enough to compensate for risk.

It is not credit risk that makes us think gilts will underperform. They are simply very expensive. The UK remains relatively inflation-prone: on a rolling twelve-month basis the CPI has risen faster than the Bank of England’s 2% target continually since late 2005, and we expect this prolonged period of underachievement to become a round decade in 2015. The 10-year gilt is currently yielding 1.9%.

As always, we do emphasise that investing in shares is not for everyone. Their value can fall and you can get back less than you invest – if you are unsure, you should seek independent advice.

This was posted in Bdaily's Members' News section by Barclays Bank PLC .