What A Hung Parliament Means For Forex Traders

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Another election, another shock. It was widely predicted that the UK General Election would result in an increased majority for Prime Minister Theresa May. The reality? She’s lost seats and her majority. We now have a ‘Hung Parliament’ in the UK. With it comes many questions about the direction of travel for the UK economy. The purpose of this article is simple. I want to explain what a hung parliament means for Forex traders.

What Is A Hung Parliament?

Firstly, let’s explore what a ‘Hung Parliament’ actually is. In the UK, the election system is first-past-the-post. Put simply, it requires a political party to win over half of the available constituency seats to form a majority government. The number of seats required to form a majority at this election was 326. The video below explains this concept further.

However, the election result threw a surprise. No political party acquired 326 seats, The Conservatives – who were favourites to win this election – returned the largest number of seats with 318 (eight short of a majority). The second largest party, Labour, won 262 seats. We also have a number of smaller parties that won seats:

  • Scottish National Party: 35 seats
  • Liberal Democrats: 12 seats
  • DUP: 10 seats
  • Sinn Fein: 7 seats
  • Plaid Cymru: 4 seats
  • Green Party: 1 seat

This scenario is known as a ‘Hung Parliament’. It’s where no party has enough seats to pass legislation without cross-party support. It’s problematic because it hampers a government’s ability to get things done and implement its own agenda.

What Happens Now?

As the largest party, the Conservatives have the right to try and form either a coalition or minority government.

A coalition is a formal agreement with another political party, which ensures they will work together to pass legislation with a majority. This is something the UK has recently experienced. From 2010 to 2015, the Conservatives and Liberal Democrats were part of a coalition government, after the former party failed to secure a majority in the 2010 election.

However, the situation is very different in 2017. All of the smaller parties have ruled out forming a formal coalition. Why? Because most have fundamentally different policy agendas than the Conservatives. Those parties have also seen how the Liberal Democrats suffered electorally after forming a coalition with the Conservatives.

With a coalition seemingly off the table, the Conservatives can try to govern with a minority government. In this situation, the Conservatives will look to secure a confidence and supply arrangement with a smaller party to get legislation passed. Think of it as an informal coalition. This is exactly what Theresa May is attempting to do with the DUP. At the time of writing, it looks like a Conservative minority government will be formed – propped up with the support of the DUP.

However, if this arrangement fails to materialise, Labour then have the right to try and form a coalition or minority government of their own. The arithmetic of the election makes this scenario unlikely.

Brexit & The Pound

As we know, the markets don’t like uncertainty. That’s what a ‘Hung Parliament’ delivers. It’s why we saw the pound slide by 2% against the dollar following the publication of the exit poll last Thursday. The chart below shows this.

In the run up to the election, the markets – as well as the polls – clearly favoured a Conservative majority. It’s why we saw support for the pound when Theresa May called for a snap election back in April.

Why did the markets favour a Conservative win? In my mind, there are two reasons. Firstly, it looked likely that Theresa May could secure an increased majority. This would have made it easier for her to pursue a softer version of Brexit. Remember, investors favour Britain being in the single market and closely integrated with the EU. Secondly, the Conservatives are much more fiscally hawkish and pro-business than Labour. This is a plus for foreign direct investment.

With this in mind, it’s no surprise that we saw the pound fall as the election results unfolded. A ‘Hung Parliament’ casts significant doubt over Theresa May’s ability to negotiate Brexit.

However, there’s an interesting caveat to this impasse. A minority Conservative government could still lead to a softer version of Brexit being pursued. This is because the Conservatives will need to compromise in order to get the support of the DUP. What you need to know as a trader is that the DUP are pro-Brexit. They have not pushed for the so-called ‘Hard Brexit’ that some in the Conservative party favour.

In my mind, I see this as positive for the pound in the long-run. The main thing keeping the GBP volatile now is the uncertainty of the Brexit negotiations with the EU.

Why Did The Polls Get It Wrong?

We’ve now had three major electoral events where the majority of polls have got it wrong. In 2016, the Brexit decision and election of Trump came were not predicted by the polling companies. However, the 2017 UK General Election was even more extreme.

Just six weeks ago, nearly all major polling companies projected a double-digit percentage lead for the Conservatives over Labour. The gap did close as election day approached, but most polls still predicted a Conservative majority in the days ahead of the election.

The picture on the ground was clearly very different. Labour leader Jeremy Corbyn exceeded expectations with his campaigning. This clearly made the election more competitive than most of us thought it would be. Theresa May also ran a poor campaign. Her reluctance to take part in TV debates against Jeremy Corbyn backfired. There was also the sense that she wasn’t entirely comfortable speaking off-script. The video below highlights voter’s thoughts of the campaign.

There was certainly a sense in the week ahead of the election that the momentum was with Labour. This proved true. And while Labour didn’t actually win the election, they did win an additional 30 seats, while the Conservatives lost 13 and their majority.

What A Hung Parliament Means For Forex Traders

The political situation in the UK at the moment is fluid. Any minority government is unstable – which means we could have another general election before long.

However, I do think this ‘Hung Parliament’ makes a softer Brexit more likely. It’s just a matter of compromise. The Conservatives are no longer in a position where they can pursue their version of Brexit. Achieving consensus with others outside their party is now a necessity. It’s why I’m still backing strength for the pound over the long-term (after Brexit negotiations become more clear).

I hope you’ve found this article useful. If you have any questions, please leave them in the comments below. I’ll do my best to reply to as many as I can.