Australian Federal Election & Its Implications

by Raymond Chan

On SBS radio, Latte with Ray made the following comments on Sunday:
o For now, we have not got a definite outcome for the Federal Election.
o The Election Commission suggests a 3% swing to Labor with Coalition 66 and Labor 72 based on votes counted. There will be a few more days before all votes (including postage votes) got counted.
o The SMH predicts the Coalition to win 75, Labor to win 70. However, we need 76 to form a government otherwise this will look to be the third Hung Parliament (after 1940 Menzies, 2010 Gillard government) since 1940s. In comparison, the Coalition won 90 of 150 seats in House of Representatives back in September 2013!

2016 Federal election - Potential hung parliament … Another week, another shock political result. With so much yet to be decided, our Strategy Team make some quick inferences and offer some perspective on potential market impacts. We take the political press ‘as read’ and infer that a hung parliament is the base case outcome.

Messy policy implications … A hung parliament or even a razor thin majority may effectively deliver a government without a mandate. i.e. these scenarios cast serious doubt over the passage of key proposed legislation around superannuation, company tax, industrial relations and even this year’s federal budget. Key spending cuts (e.g. healthcare) may be forced off the table. We will consider these in more detail separately.

Potentially messy economic implications … A more difficult legislative environment may delay the process of reform which may impede future economic flexibility and arguably growth. Australia’s fiscal position is unlikely to improve under a minority government which puts a cloud over its AAA credit rating. We’ll be watching indicators around business confidence and investment and their potential impact on employment and growth.

Short-term market implications … Saturday's events re-enforce our view that the RBA will move to again cut rates in August, although this itself may be taken positively by the market.

Political instability ratchets up, but this is a familiar story … Political instability is clearly concerning and we know that markets discount uncertainty. However we pose these questions: 1) are perceptions of Australian politics going to change that much in the context of 5 Prime Ministers in 8 years?; and 2) is a hung parliament going to concern all-important marginal offshore investors more than the Brexit inspired political crisis in the UK/Europe and the unknowns around Trump versus Clinton in the US? We suspect not. … Of deeper concern in the medium term is the rise of populist politics globally, as seen in the rise of the European radical right, the shock Brexit result and the US Republican nominee. In President Trump? (29/3/16), Michael Knox explains how populism can be very successful, and well supported by markets in the short term (e.g. increasing budget deficits), yet it is short term success purchased at the cost of potentially high long term damage.

Economic realities will ultimately drive the market … This result shares similarities with the events post the September 2010 Federal election. Australian shares rallied strongly under the Gillard minority government (2010-13), with Telcos and Healthcare stocks surging 65-75% and Banks 40%, due primarily to a fall in the RBA cash rate from 4.5% to 2.5%. Our point here being that economic drivers far outweighed the political during this period of instability, but we note that valuations are elevated this time around.

What we expect from the market … We expect volatility to spike, particularly as markets have rallied close to their pre-Brexit levels. Banks are likely to be most susceptible. However, we also noted that the markets were very quickly rebounding from the equivalent “hung parliament” inspired volatility in late 2010 however market valuations are far fuller this time around.

Conclusions / Implications to Equity Strategy … The lack of a political majority and clear mandate for government is clearly frustrating for markets. At this stage we retain our cautious Investment Strategy but again stand ready to accumulate quality names which may be oversold in any market over-reaction, similar to last week's Brexit shock.


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