15th September 2014
Neil Woodford, manager of the CF Woodford Equity Income fund discusses the potential impact of this week’s referendum…
Later this week, Scotland votes on whether to remain part of the UK. Much has been written in recent days about the importance of this referendum, focusing in particular on the likely outcome of what is looking like an increasingly close vote.
Many of our clients have been asking me for my view on what this issue could ultimately mean for their investments and the domestic economy. Although a ‘Yes’ vote will have significantly greater near and long-term economic uncertainty, especially for the Scottish economy, associated with it than a ‘No’, I am of the view that the UK has already crossed a constitutional Rubicon regardless of which way the vote goes on Thursday.
The economic and political implications of this are profound and will, I believe, become more tangible in the immediate aftermath of the vote.
This is clearly going to be a close referendum. If the ‘No’ vote claims the narrow victory that many commentators – and bookies – expect, we will enter a protracted and potentially acrimonious period of negotiation between Westminster and the Scottish Parliament and this is likely to last well beyond the next General Election in May 2015.
Consequently, the first duty of the newly-elected government will be to continue those negotiations and reach a conclusion on the exact terms of Devo Max.
Ultimately, this may well represent broadly what Alex Salmond and the Scottish nationalists originally wanted and, in some respects, it is a more convenient outcome for the party. Devo Max should deliver all the powers and control over spending, taxation and social policies that the SNP originally wanted, but it removes the headaches around currency and the Scots retain the air cover provided by the Bank of England and its deposit guarantee scheme.
If there is a ‘No’ vote, once the terms of Devo Max for Scotland are settled, unlikely until well into 2016, another rump UK (rUK) general election will probably be required because the previously elected government should no longer have a legitimate mandate. For example, if the Labour Party were to win the election in May 2015 – currently the most likely outcome – but was reliant on a majority that included 40 Scottish Labour MPs, this would surely look democratically deficient in a post devolution UK. It would certainly be so if the ‘Yes’ vote carries the day.
Meanwhile, other constituent parts of the United Kingdom will be contemplating the implications of a fully devolved Scotland and will be assessing their own options. Politicians in Northern Ireland and Wales will be watching closely and, will quite possibly seek increased devolved powers too. And of course, it begs the question of how England will be governed and by whom? It’s the “West Lothian Question” with knobs on.
I believe that it is now probable that we are about to witness the fragmentation of governance within the United Kingdom – effectively, the federalisation of the UK regardless of who wins on Thursday. Clearly, this is profoundly important from a social and political perspective but, as a fund manager, I am also concerned about the considerable economic ramifications.
As far as the economy is concerned, this creates a new dynamic of complexity and uncertainty which is already reflected in a weaker pound. Inevitably, this uncertainty will have a dampening effect on consumer sentiment, business confidence and investment intentions. I believe the UK economy is already losing momentum, as I have been anticipating, and these latest political developments can only accelerate and prolong this slowdown.
Furthermore, the political complexion of a rUK parliament increases the chances not only of a referendum on EU membership but also likely rUK exit from that union. With this in mind, international investors are likely, initially at least, to be more reticent about investing in the UK and this may add to pressure on sterling.
We are also, of course, considering the implications of all of this on the businesses in which we are invested. So far, we have not seen anything significant enough to alter an investment case or prompt any changes to the portfolio. In some ways, the economic uncertainty we outline here, further underwrites the portfolio strategy and many of the stock decisions we have already executed. Our confidence in the portfolio and its long-term potential are therefore unchanged. We do, however, feel it is prudent to start preparing our investors for a period of extraordinary economic and political uncertainty here in the UK.