Whatever next: the new normal of no overall majority
Here is what we said to clients on Friday after the Election about how a hung Parliament (and hung Brexit talks) will affect how we invest. We know exactly what to do but know nothing about what will happen next. The realism of our agnostic model of short-term returns, and our focus on probable outcomes at the time horizons when money has to deliver its planned, goal-specific benefits, are strengths. By contrast, forecasting, and selecting on the basis of who can make good forecasts, can never minimise regret.
Though not what the PM expected, the Parliamentary maths today is broadly consistent with the likely outcomes under a first-past-the-post system without boundary changes – as has been true since the first coalition Con/LDP government. The illusion that a large majority could be achieved was probably due to the impacts of UKIP and these have now unwound.
Whilst it is true, therefore, that no UK party is a free agent, this was anyway likely to be what results from a gradual erosion over many years of the authority of the whip system. It was probably partly to counter this loss of power over her own MPs that the PM thought she needed a bigger majority, although she might never have made that calculation had it not been for the perceived disarray of Labour. But this concept of authority stemming from the size of the party majority was never necessarily true. It could equally well embolden internal dissent and accelerate a return to the historical reality that all major parties are loose and fractious coalitions. It is equally possible now that the effective cohesion of the Conservative party will in fact be strengthened, not weakened, by its Parliamentary vulnerability.
The PM’s miscalculation about Labour was apparent as soon as you read its manifesto and the accompanying ‘full costings’ which, no surprise, added up - as anyone with a spreadsheet could achieve. For anyone who has not lived through socialist tax and spending policies, the problem of making tax, borrowing and spending add up can seem like an unnecessary detail. After nearly a decade of austerity, the siren song of a socialist alternative needed to be addressed by the more orthodox parties and it wasn’t. A country (or age group) attracted by hope needed to hear that hope is not a policy and it didn’t.
The cohesion of the Conservatives will be thought to matter for the Brexit negotiations. When we have discussed Brexit internally, we have always struggled to see how the outcome of the negotiations, as between ‘harder’ or ‘softer’, could ever be decided by the UK’s prior preferences. The Conservatives, because they believe it is a matter of weighing up estimable quantities, cannot accept the EU’s stated condition about sequencing because it prevents pricing the trade relationship. But if the EU budges on sequencing and then sets ‘too high’ a price on the trade relationship, relative to the expected short- and long-term costs of trading on WTO terms, the talks will fail. In either case, the Brexit we end up with is effectively the Brexit the EU chooses. If the negotiating stance is now to alter because of the election result, towards some notionally more consensual position that prefers a ‘softer’ Brexit, it is still difficult to see how that preference can lead anywhere other than paying the price for continued access to the single market. The outcome in that case is also determined by the EU.
How do you decide on an appropriate investment policy that deals with uncertainties where both the probabilities of highly-significant events and their likely impact are so difficult to identify? This is a problem most investment managers will be confronting now.
The striking feature of our own approach to investment decisions is that it is determined by a model that has (and seeks) no knowledge of these events and makes no attempt to anticipate them or assess their impacts. The model is in fact deliberately agnostic except to the extent of quantifying, based on historical data, the distribution of the possible outcomes at every different horizon. The question surely arises: is giving up on forecasting likely outcomes at arbitrary time horizons for decision making, as opposed to possible outcomes at time horizons given by personal consumption, a strength or a weakness?
By choosing to adopt our approach and to plan tolerable outcomes at personal consumption horizons, Fowler Drew clients have effectively expressed a preference for agnosticism. The fact that clients rarely fundamentally change their planning based on what is happening in markets, let alone leave us for a different manager, suggests that they see this as a positive strength. Perhaps your own response to the confusion this Election has triggered is, like our own: thank goodness we have a basis for decision making that is not dependent on forecasting!
If you need help reinforcing - or indeed questioning - the basis of your own planning, including your chosen tolerances of bad outcomes, do please contact us.