How significant is politics’ effect on the markets and should I be cautious with my investing pre-election?

Cautiousness is a constant component of our investment approach and this is not particularly affected by the upcoming Federal election or other short-term factors. Academic studies and our own extensive experience show that a long-term focus on reasonably valued, high-quality assets is more likely to generate superior returns over time.

Elections tend to be somewhat of a distraction to markets and there can be relief once they are over. Markets tend to underperform in election years in the United States but there is less evidence of a drag on activity in Australia. Consumer sentiment in fact jumped sharply by 8.5 per cent in the latest reading by Westpac/Melbourne Institute in May 2016. The recent Reserve Bank interest rate cut, ongoing property price rises and a relatively benign budget had far greater influence. The disruption to business has also been minimal as seen in the latest comparatively positive NAB Business Survey for April 2016.

There is too little to split the political parties to have significant impact on markets. It appears the Coalition will be returned with a smaller majority in the lower house and an inability to control the Senate. Large-scale reform would be hard to achieve in these circumstances. Both major political parties are having difficulty funding their expenditure promises. They indicate they will bring the budget back into surplus around the same time. Implications for the Reserve Bank’s interest rate policy are limited.

A Coalition victory is likely to presage greater change to the superannuation system and more stimulus to middle-income spending through personal income tax cuts. A Labor victory would probably see establishment of a Royal Commission into banking practices, possible changes to negative gearing tax incentives and cancelation of cuts to healthcare bulk-billing incentives.

Elections with more binary outcomes tend to have far greater impact. Uncertainty is no friend of asset prices. The British vote on whether to stay in the EU has far more significant implications for markets. An exit would likely cause recession in Britain, lower interest rates for longer and two years of uncertainty. It could damage the fragile recovery in Europe and would call into greater question the sustainability of the union of the remaining states. We expect the British public to vote to stay, though the outcome is likely to be relatively close.

The US presidential election will also have greater impact on markets. It appears a Trump presidency would create a more volatile environment. Any shifts toward protectionism and against immigration would likely weigh on economic growth.

Beyond upcoming elections, there is justification for investors to be more cautious than usual now. A number of significant risks cloud the outlook. We think the risk of global recession will rise in the next few years. This would detract from the ability to generate positive returns from growth assets like shares and property. Relatively high prices in both share and bond markets enhances this concern. We also expect interest rate rises in the United States to surprise on the upside and this will induce greater volatility.

Andrew Doherty, director, AssureInvest

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