Banks Waver on Whether Conservative-Led Coalition Best for Pound

Morgan Stanley is bucking the consensus view that a Conservative-led government would be the best outcome for the pound at Thursday’s U.K. elections.

A “traditional coalition” between the Labour Party and the Liberal Democrats would help sterling by removing two potential causes of volatility, according to Ian Stannard, the U.S. bank’s head of European foreign-exchange strategy.

“It removes the risk” of a referendum on Britain’s membership of the European Union, “which would take place under a Conservative-led government, and then it removes the policy uncertainty which may be associated with a coalition, like one between Labour and the Scottish National Party,” Stannard said at a briefing in London on Tuesday.

His base-case scenario is for the pound to drop about 8 percent to $1.39 on a Conservative-led coalition. It won’t get that low if Labour and another traditional mainstream party go into government together, but could drop further if Labour joins forces with the SNP or if there’s no formal coalition.

‘Downside Potential’

With little more than a day to go before voting starts, opinion polls show the Conservative and Labour parties are neck and neck, with neither tipped to gain enough seats to govern alone. That potentially gives smaller parties like the SNP and U.K. Independence Party a voice in the next administration.

Echoing Stannard’s views was Credit Suisse Private Banking’s chief investment officer for the U.K. and Europe, Michael O’Sullivan. He said the dangers of an EU referendum outweigh market perceptions that Labour isn’t as fiscally responsible as the Conservatives.

His company expects “neutral/mild downside potential” for the pound “in a Conservative-led government, and neutral/mild upside potential in a Labour-led government,” he wrote in a note.

The pound rose 0.4 percent to $1.5187 as of 5:13 p.m. London time, after dropping 2.1 percent in the previous three days. It was little changed at 73.66 pence per euro.

Statistically, there’s little evidence to prove the market’s “preconception that certain parties are better than others for financial markets,” Stannard said.

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