How to lose friends and alienate people

The UK government has given a textbook example of how not to deliver a message. Our multi-asset portfolios fund manager David Coombs picks over the wreckage and finds coherence, but poor execution.

Pound coin

Many years ago, I went on a management training programme that featured a titbit I have retained to this day: “You have one mouth and two ears for a reason.” I am sure many of you will have received the same words of wisdom over the years, but how often do we remember to follow the advice?

Other gems included “taking people with you” and “being visible when times are tough”. [Note to HR: see it was worth it.]

I thought of these, frankly fairly obvious, basic rules of communication last week in the aftermath of the mini-budget. I think we can all agree it was a comms nightmare and will be taught to budding PR execs in the decades to come.

So, if we look beyond the optics and the politics, did any of it make sense?

This may surprise you, but I believe there was a coherent strategy somewhere in Prime Minister Liz Truss’ and Chancellor Kwasi Kwarteng’s plans. We may not agree with it, but our job is to try and understand what is being proposed and the potential implications for UK stocks and bonds. It’s not to provide a political judgement, which I will leave to others.

Let’s start with the reversals of former Chancellor Rishi Sunak’s policies. Dispensing with the increases in corporation tax and national insurance makes sense to me. Raising taxes – and interest rates for that matter – ahead of a likely recession caused by external shocks doesn’t seem logical. Surely you need to stimulate growth to avoid recession, not supress it. Yes, inflation clouds this, but remember inflation was caused by COVID-19 and Russia, not excessive domestic demand.

Now the really controversial bit (I feel I should issue a trigger warning): competing with EU countries on tax is probably inevitable post-Brexit. Ireland has been doing this for years. A lower corporation tax rate should attract overseas direct investment for a Britain that can no longer offer access to the single market. Reducing restrictions on bonuses in the financial services industry and removing the 45p rate of tax also made sense in this context of attracting business activity. Neither of the latter two announcements had a material financial impact. But, of course, they were a huge political firework.

Slow motion train wreck

Truss and Kwarteng had completely ignored the need to explain themselves, to get people onside and to ensure they were supported by all the allies they could muster. Instead, their surprise change of tack spooked investors and ignited a cycle of outrage in the media. After 10 torturous days, they were forced into the inevitable reversal of their tax cuts for higher earners.

The removal of the 45p rate was aimed at encouraging people to work more hours and to reduce early retirements (which in turn would mean more tax for the Exchequer). It’s thought that many people earning just below the threshold are put off from making more to take them into the 45% bracket. The UK is dogged by strange thresholds and tiered taxes that create distortions – stamp duty is one of the most egregious and the most visible. Yet there is one quirk in that the marginal tax rate on income between £100,000 and £125,000 is 60% because of the withdrawal of the personal allowance. That’s quite a hurdle to enterprise.

If the increasing-incentive-to-work theory is correct, the removal of the 45p rate may well have increased tax revenue. Crucially, I think the same effect could have been achieved by raising thresholds rather than removing the rate. This would have been more politically acceptable as the super-rich would still be paying 45% on the vast majority of their earnings.

The most material – and in my view the most controversial in financial terms – were the reduction in the basic rate of tax to 19% and the cap on energy prices. Both provide universal, rather than targeted, support. And in the case of the cap, potentially unlimited in terms of cost. Again, I think it would have been better to raise the threshold for the basic rate, rather than tinker with the rate, taking many of the lowest earners out of income tax altogether. As for the energy price cap, it should have been means-tested to ensure it went only to those who needed it. That would make it much cheaper while also ensuring high prices for the rest to discourage needless usage. Many believe the basic rate tax cut and energy price cap are inflationary; I disagree because they are just offsetting the rising cost of non-discretionary items such as energy, food and shelter.

Higher risk premium for the UK

Investors’ overreaction to the mini-budget is understandable, given we live in an age of social media pile-ons and 24-hour rolling news. Yet we do now have a government that wants to borrow more while cutting its revenue. Any household or business that does this would expect to pay a higher interest rate to reflect the increase in risk. The gilt market is behaving quite logically.

But it was an overreaction, in my opinion, driven by a lack of context from the government, political naivety and a lack of visibility when the negative reactions started. In essence, Kwarteng and Truss didn’t sell it and they didn’t listen to constructive challenges. Consequently, we did buy gilts in our lower and mid-risk multi-asset portfolios last week as five-year yields jumped above 4.5% (5.0% in 30-year bonds) as we felt those levels were approaching fair value and above where we believe inflation will settle over the coming few years.

For me the most serious immediate outcome is that the UK now lacks credibility. Fund managers in New York, Tokyo and Singapore will want a bigger risk premium for investing in Britain. This will be reflected in the value of sterling, gilt yields and the level of the FTSE 100. The Bank of England and the Chancellor have got a lot of work to do to regain this trust. I wish I could say I was confident they will.

My advice to the UK government (they like things in threes): “Listen, act, explain,” NOT “act, explain, listen.” If only I could remember this at home, it would save me a world of pain.

Tune in to The Sharpe End — a multi-asset investing podcast from Rathbones. You can listen here or wherever you get your podcasts. New episodes monthly.

 

 

 

Important legal information

This area of the site is for professional advisers

Please read this page before proceeding, it explains certain legal and regulatory restrictions applicable to the distribution of this information. It is your responsibility to inform yourselves of and to observe all applicable laws and regulations of the relevant jurisdiction.

This section of the website is directed only at investment advisers and other financial intermediaries who are authorised and regulated by the Financial Conduct Authority (FCA).

The information provided in this site is directed at UK investment advisers only and must not be circulated to private clients or to the general public. It does not constitute an offer to sell, or solicit an offer to purchase any investments by anyone in any jurisdiction in which such offer or solicitation is not authorised or in which a member of the Rathbone Group is not authorised to do so.

I confirm that I am an investment intermediary authorised and regulated by the Financial Conduct Authority. I have read and understood the legal information and risk warnings below:

Important Information (Terms and Conditions)

The information contained on this site is believed to be accurate at the date of publication but no warranty of accuracy is given and the information is subject to change without notice. Any opinions or estimates included herein constitute a judgement as of the date of publication and are subject to change without notice. Furthermore, no responsibility is accepted for the accuracy of any information contained within sites provided by third parties that may have links to or from our pages.

Rathbone Investment Management Limited ("RIM") is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Registered Office: Port of Liverpool Building, Pier Head, Liverpool L3 1NW. Registered in England No 01448919.

In accordance with regulations, all electronic communications and telephone calls between Rathbones and its clients are recorded and stored for a minimum period of six months.

The information provided in this site is directed at UK investors only. It does not constitute an offer to sell, or solicit an offer to purchase any investments by anyone in any jurisdiction in which such offer or solicitation is not authorised or in which a member of the Rathbone Group is not authorised to do so.

In particular, the information herein is not for distribution and does not constitute an offer to sell or the solicitation of any offer to buy any securities in France and the United States of America to or for the benefit of United States persons (being resident in the United States of America or partnerships or corporations organised under the laws of the United States of America or any state, territory or possession thereof).

In order to comply with money laundering and other regulations, additional documentation for identification purposes may be required.

Rathbones shall have no liability for any data transmission errors such as data loss, damage or alteration of any kind including, but not limited to, any direct, indirect or consequential damage arising out of the use of services provided or referred to in this website.

Past performance should not be seen as an indication of future performance.

The value of investments and the income from them can fall as well as rise and you may not get back the amount originally invested, particularly if your client does not continue with the investment over the longer term.

Changes in the rate of exchange between currencies may cause the value of an investment to go up or down.

Interest rate fluctuations are likely to affect the capital value of investments within bond funds. When long term interest rates rise the capital value of units is likely to fall and vice versa. The effect will be more apparent on funds that invest significantly in long dated securities. The value of capital and income will fluctuate as interest rates and credit ratings of the issuing companies change.

Tax levels and reliefs are those currently applicable and may change and the value of any tax advantage will depend on individual circumstances.

Investing in emerging markets or small companies may be potentially volatile, as these investments are high risk.

The design, text and images are owned, except as expressly stated by members of the Rathbone Group. They may not be copied, transmitted, displayed, performed, distributed, licensed, altered, framed, stored or otherwise used in whole or in part or in any manner without the written consent of Rathbones except to the extent permitted and under the procedures specified in the copyright Designs and Patents Act 1988, as amended and then only with notices of Rathbones' rights.

Subscribe to the In the KNOW blog email

Archive