Why the UK election matters for traders

This year's UK general election could turn out to be one of the most turbulent in recent times for financial markets. Here we explore how it might affect sterling and UK equities.

​​​​​​​​​​​​​​​​Who's pole position in the race for No.10?

No-one knows. Online bookmakers are estimating a 70-80% chance that no party will gain an overall majority. The only thing that is certain about the outcome of the general election is that it is uncertain​.

UK financial markets are mimicking the conditions we experienced just prior to the Scottish referendum late in 2014; becalmed. We saw how drastically that changed as the vote drew closer and the outcome more uncertain, so the potential for a pick up in volatility as voters head to the polls remains acute.

Do equities look vulnerable?

Yes - or certainly traders are forecasting market volatility. The FTSE 100 is expected to move 4% the day after the vote, either up or down, according to options markets.

Traditionally financial markets have performed better when the Conservatives have won the election, but that might not be the case this time round; the FTSE 100 is likely to be at or near an all-time high. It will take a brave trader to put their money where their mouth is at these levels with so much uncertainty around.

Is there anywhere that is safe in UK equites?

Remember, ultra-loose monetary policy remains in place and is underpinning equities, so a fall immediately after the election might be sharp and painful but there is every chance it could rebound just as quickly.

However, there could be pockets of the market that might benefit depending on the outcome. For example, Labour has committed to tackling so-called "fat-cat profiteering" in the utility sector if it is elected, so a Conservative win – or simply a Labour loss – could buoy equities in this sector.

Are there policies which might cause broader market volatility?

Yes. A Conservative win and/or coalition (potentially with UKIP, however unlikely that might seem) would heighten the prospect of a referendum on European Union membership and the potential for a "Brexit" – British exit - from the union.

That would spell trouble for UK exporters; Europe is Britain's single biggest trading partner and an exit from the EU will introduce tighter trading restrictions. It would also cast a pall over the real estate sector with tax issues and freedom of movement no longer a certainty.

What does this mean for GBP?

The impact on sterling also appears weighted to the downside. In most cases it will likely suffer as the uncertainty over economic policy or a vote on Europe, just like the Scottish referendum, will bring with it a hiatus for business decisions being made and deals being done.

What's the best outcome for financial markets?

Ironically, an election with no clear outcome could be the best result for financial markets in the short-term. If no party has a clear majority then passing legislation will be a near impossibility, so consequently the status-quo would remain.

What are some possible trading options?

Protection seems the best option for traders. Trading three or six-month volatility is a typical – and some would say, sane – response to market conditions as uncertain as these.

Gold too, particularly at its current spot price, could provide protection from wild sings and capital gains whatever the outcome of the election.

With all three major parties promising fiscal discipline, Gilts could provide some reassurance to bond investors, although – as with this uncertain election - there can be no guarantees.