You will have seen my previous Linkedin comments over the last 12 months, written as a result of significant events in the UK with unexpected results, principally related to Brexit and Politics. My intention in this latest note is to highlight the most impactful aspects of our current thinking in relation to UK economics, politics, social behaviour and real estate (closing with a reminder of our position on Brexit).
Economics: Growth in the UK is slowing, consumers and businesses are nervous with regards the impact of Brexit and the outlook through the eyes of many is one of rising inflation and interest rates alongside a weak currency and general economic uncertainty. On a relative and absolute basis this is not an attractive platform for UK investment and it’s hard to argue against. However, I do believe that this negativity is based in the short term (c.2 years) and in the medium term (3-5 years) UK economic performance will be a lot more robust. This optimism is primarily because of my outlook with regards the Brexit outcome (see below), alongside my belief that likely economic underperformance will allay concerns over the level of domestic inflation and, as such, interest rates will remain low. In my opinion, the Bank of England will look more to GDP growth than it does to 2% CPI.
Politics: I have said before that I try hard not to let my personal party-political views colour my commentary. It is, of course, hard not to be biased or cast a vote out of self-interest, but choosing the best political leaders (available) in the interests of the UK is how most of us would say we view the intended workings of the democratic electoral system. I know there have been times when I have voted outside my comfort zone because I think change is needed or lessons need to be learned. For example, I am currently of the view that the general election outcome of a hung parliament is very possibly a good result for an easier won softer Brexit because of the need for a more cross-party debate and agreement. It may make other policies harder for the Government to enforce but our main goal must remain the relationship with the EU and increasingly with the rest of the world.
Nonetheless, watching the behaviour of certain Labour and Conservative Party MPs and listening to their rhetoric we must be aware that their goal will be to disrupt policy and process as much as possible. As for those at the top of those political parties, I don’t think it will ever again be a Corbyn vs May general election contest so there is more political personality change to come in the next few years – and despite all pre-election speculation it is now more likely that May is where that change will lie rather than Corbyn.
As a final speculative statement, it is not inconceivable that there will be increasing support (vocal at least) for a second Brexit referendum. In my opinion one or both of two events needs to occur for this to happen in reality. The first is a shift in attitude in the EU that would allow the UK to substantially achieve what David Cameron set out to negotiate in 2015 and ultimately led to the Brexit referendum, namely sovereignty of the UK (including immigration). The second would be the finalised Brexit Heads of Terms being materially different or worse than the voter could have reasonably anticipated. I don’t believe the House of Commons can decide alone to remain in the EU, having heard the voice of the majority, but they can decide to call for a second referendum. Unlikely but possible and perhaps this will become the Labour Party ‘cause’ if it decides its newly found popularity is on the wane.
Social Behaviour: Whether it is political, economic, technological, leisure or real estate there has been and will continue to be significant social change amongst us and it has been repeatedly misread. At Moorfield we spend a great deal of time debating social change and how we think it impacts on what we do in providing accommodation for others. The subject is so big that my intention is only to point out to you that we are aware. Some of the societal changes we are all experiencing are definitely for the good and some are definitely not (and of course some are neutral and simply for change’s sake) but ignoring is not an option.
Real Estate: At the risk of repeating what you will have recently heard from us, I think I can put our current outlook and approach into a relatively small number of bullet points:
- We believe we are in the mature stages of the real estate cycle.
- We believe there is a value correction due in areas of the real estate market that are over-supplied or are experiencing record levels of rents and yields. We don’t believe this will come in the form of a real estate ‘crash’ but we have no intention of participating in any of these areas.
- We believe there is an arbitrage opportunity in buying short term income and risk assets and selling stabilised long term income and lower risk assets.
- We have very strong conviction that there are some systemically undersupplied areas of the real estate market that will continue with high occupancy and rental growth despite the real estate cycle.
The Brexit Outcome (as previously set out plus some minor updates):
Medium term: it is our opinion that the UK will remain a safe haven for international investment capital for all the reasons we are familiar with. We also believe that the UK and the EU will need to reach an appropriate compromise on their relationship going forward, because we believe they effectively have to at some point – for the economic and social health of all those directly and indirectly involved (and many that have not as yet understood the likely global impact) and a softer rather than harder exit now appears more likely! Negotiations will take time, may well include transitional agreements and time extensions and will, no doubt, involve plenty of intermediate venom and vitriol magnified by the salivating media. However, the end result will likely be pros and cons for both sides of the divide but, we suspect, not materially worse going forward than at present, once the dust has settled. Wilful blindness on our part? Perhaps, but hindsight will have to be our judge on this.
We also believe that a UK unfettered by the ‘unelected eurocrats’ and free from imposed EU restrictions will be able to negotiate trade deals with economies that are faster growing than the EU – such as China, India, Canada, Japan, the US and more. The Election result has not materially changed our opinion on this medium term outlook, other than an expenditure policy versus the current austerity measures might see GDP growth benefit (at the cost of increased tax and debt).
The charts below show the growth in EU exports to the UK, while the UK has been growing its exports elsewhere – the EU is just as keen on a close trading relationship with the UK!
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UK Exports & Imports by Trading Group
Source: Capital Economics
Short term: it is our opinion that the UK negotiations with the EU and the reporting on it will cause concern, confusion and disruption. Not a comfortable environment for anyone, but one in which opportunity lies for investment funds such as ours that like short term weakness as long as it translates into a means to create medium (and longer) term value. The Election result has magnified this perspective and does not take away from the investment themes we are currently pursuing.
Long term: it is our opinion that the UK may be better off out of the EU (and the Executive Committee of Moorfield all originally voted to remain!) for reasons that are much more about the EU and the Eurozone than they are about the UK or its reliance or role in the EU. We have no crystal ball of course and we are talking about the unpredictable world of politics rather than the world we more readily understand of business, real estate and finance – however, we can’t immediately see how the mechanics of the EU and eurozone can continue without some major changes.
We are told by the politicians that the answer to the broken experiment that is the eurozone lies in federalisation (i.e. greater monetary and fiscal union). But the voting public across the EU would appear to be pushing hard for greater nation-state independence. So how does that work? Have I not just described opposing forces? The bullet of a Le Pen victory has been dodged for the EU project but it’s a story far from over. Le Pen victory would have likely resulted in a disastrous event for the EU as an ‘in-out’ referendum similar to the one in the UK would have been called for (as it would have been if Wilders had triumphed in the Netherlands – and perhaps still will be if Grillo succeeds in Italy) and the result of the referendum(s) would be by no means predictable. President Macron and others seem to have recognised the need for change in the EU structure – but what change, what resultant impact and at what cost….short, medium and long term.
Am I being too pessimistic about the EU and the Eurozone? Well, it is worth remembering that Europe, despite some recent GDP growth, has clearly not yet properly recovered from the effects of the GFC. Low growth, high unemployment and unrecognised losses are still present across the continent and many of the issues that were headlines a few years ago are likely to be so again in the future.
The Brits may be relentlessly snatching defeat from the jaws of victory on a number of political fronts currently but it could still prove to be the case that we have escaped the EU in a timely manner!