That sporting adage, about “playing the ball, not the man”, is one investors should bear in mind when it comes to assessing the changing nature of political risk.
As France prepares to choose a president on Sunday, investors are considering each candidate’s chances of delivering on their promises — given that neither is likely to achieve a majority in next month’s National Assembly elections.
The ability of politicians to turn manifestos into reality is a key question for markets in coming months. Brexit, the US election and a series of European votes have concentrated markets’ attention on the bids for power by individual politicians. Now the focus is shifting towards implementation risks.
Paul Lambert of Insight Investment says investors should play the policy, not the politician. “Markets don’t care if you like or don’t like the personality,” he says.
There are signs investors get the message. Market reaction to Donald Trump’s election ranged from panic to excitement, but has now shifted to disappointment at his limited ability to get things done so far.
Approval rating: 41%*
The leading indicator: The Russell 2000 index — for US small-cap stocks — has tracked market optimism about Donald Trump’s ability to deliver on his election promises. The Russell has outperformed the S&P since the presidential election last autumn.
Market views: “Many of these [tax proposals] seem like a good idea . . . But . . . how is this going to be paid for? . . . there will be considerable disagreement about the implementation of these ideas…” — Antje Praefcke, Commerzbank strategist
* Gallup, April 2017, presidential approval rating
UK prime minister Theresa May triggered a surge in the pound towards $1.30 when she called a snap election as political observers anticipated it would give her a better chance of delivering a smoother Brexit.
But Mrs May has not yet established a clear record of getting things done on the home front and a leaked account of last week’s tense meeting between UK and EU negotiators illustrates the scale of the Brexit task she faces. The pound remains stalled below $1.30.
Emmanuel Macron’s expected elevation to the Elysée Palace may have boosted the euro but investors question whether, in the absence of an established party behind him, the National Assembly elections in June will hamper his policy agenda.
If Marine Le Pen wins a shock victory, she too is likely to lack Assembly support. The anti-euro rhetoric of the far-right candidate may win the vote but not necessarily backing from parliamentarians.
Approval rating: 60%*
The leading indicator: The spread between French and German bonds has become the most important indicator in assessing the markets’ view of the election. As jitters rise, so do spreads.
Market views: “ . . . Macron . . . will lack political backing in the legislative assembly and it will really be a fight with the trade unions” — Eric Vanraes, portfolio manager, EI Sturdza Investment Funds
* Second-round voting intention, FT poll tracker: https://ig.ft.com/sites/france-election/polls/
All this means that“binary risk has gone”, says Mr Lambert. Instead, weighing up policy implementation gives investors time to develop a considered rather than knee-jerk view about politics.
David Lloyd, head of institutional portfolio management at M&G Investments, says investors have had an “obsession with geopolitical events” but, after a turbulent year, “we shouldn’t be focusing on that”, he adds. “Market volatility is beginning to tire of that.”
Attention on policy implementation has tempered investor worries about the populist wave in Europe. Governing is not just a headache for the two French presidential candidates — it would be a challenge for other populist movements hoping to win power, such as Five Star in Italy, says Nomura forex strategist Bilal Hafeez.
“They are leading the polls but the make-up of the party means they are inexperienced politicians,” he says.
Approval rating: 53%*
The leading indicator: The pound moved sharply higher after Theresa May called the snap election because markets concluded she would have more time to deliver a Brexit strategy
Market views: “State of UK parliament will make almost no difference to Brexit deal, which will be mostly determined by what EU decides to offer” — Paul Lambert, currency manager, Insight Investment
* YouGov, March 2017, ‘Do you think TM is doing well or badly as prime minister’
Investors need to tune their antennas to how policy implementation challenges differ around the world. Asset manager Amundi anticipates a boost for European and emerging market assets because of diverging policy issues in France and the US.
Philippe Ithurbide, head of research at Amundi, thinks a victorious Mr Macron has a good chance of forging a coalition with Republicans in the Assembly, paving the way for sweeping labour market reforms.
But across the Atlantic, Congress and the White House are “struggling to find common ground”, he says.
Consider, too, how the US president holds all the cards on trade policy while Mrs May holds none. For fiscal policy “it’s the opposite”, says Mr Lambert. “Mrs May is only constrained by what she wants to do while Mr Trump is constrained by his party.”
Yet Mrs May has other implementation problems. Brexit could hamper UK government finances, posing a delivery headache for Mrs May if the UK’s current account deficit remains stubbornly high. Melanie Baker, Morgan Stanley economist, is “less, rather than more, confident” about the likelihood of the deficit shrinking as Mrs May embarks on the withdrawal process from the EU.
If policy implementation problems prove stubborn and the promise of fiscal stimulus to replace monetary policy fades, some investors anticipate central banks dominating market sentiment in the latter part of this year.
Monetary policy normalisation “will be vital in shaping the market in the coming months”, says Mike Amey, portfolio manager at Pimco. “As central banks start to talk about either slowing monetary purchases, or reducing the size of the balance sheet, this could add an extra layer of uncertainty.”
Meanwhile, three months into the Trump presidency, the market is learning a little more about his political approach, says BNY Mellon’s Simon Derrick. “This suggests . . . we are very slowly returning to business as normal for the FX markets — or as normal as they can be in a world of negative yields.”
After panic-inducing political risk events, investors will be mightily relieved.