The recent election results in France and Britain have sent political shock waves through the world. Leftists rejoiced at the widely predicted results in the United Kingdom and the surprising victory of the far left in France.
The elections were quite different, although both resulted in progressive parties winning the most seats. The British Labour Party is far more moderate compared to the coalition of far leftists that France chose. Think Tony Blair vs. Leon Trotsky without the organizational skills.
These elections and upcoming ones in other nations will have profound effects on the investment environment in the future. The subject of “country risk” as it pertains to industrialized nations has been largely ignored since the end of the Cold War and the implementation of the euro. I believe analyzing the stability of countries will be increasingly important for investment strategists and portfolio managers.
Despite leftist parties coming out on top, both nations saw dramatic surges in what is disparagingly called the far-right by its detractors. In Britain, although the Reform Party led by Nigel Farage picked up only five seats in the 650-member House of Commons, it got 14.3 per cent of the popular vote – the third-highest number of votes of any party. This growth was at the expense of an unpopular Conservative Party, which received only 23.7 per cent of the vote. The Liberal-Democrats received 12.2 per cent of votes but won 71 seats. Despite only picking up 33.7 per cent of the popular vote, Labour won 410 seats and an overwhelming majority owing to vote-splitting and the first-past-the-post system. The British election thus did not signify a shift to the left, but a move away from the centre and toward the right. Labour benefited by a split in the right just as Canada’s Liberals did in 1993 by the implosion of the former federal Progressive Conservative Party and rise of the Reform Party.
The British, at least, have a definitive outcome with a Labour majority. Hopefully, Prime Minister Keir Starmer having such a large majority in the House of Commons will avoid undue influence from the far left within the party. The French have no such luck as votes were split between the left-wing alliance, Nouveau Front Populaire (NFP), Marine Le Pen’s Rassemblement National (RN), which many call the far right, and President Emmanuel Macron’s centrist alliance, Ensemble. The left came out on top with the centrists finishing third.
But the left in France is far more extreme than Ms. Le Pen’s faction and far more extreme than left-of-centre parties in most other industrialized countries. The left is demanding to rule without any centrist input. Among its key policies is increasing the top income tax rate to 90 per cent. France may be setting itself up for a tumultuous few years, before the 2027 presidential elections, which might pave the way for a Le Pen victory.
At this point, France’s near-term political future is uncertain. The French stock market is overvalued in my view. French-German bond spreads are wide. France is best avoided right now. I would be surprised if the rating agencies did not begin a cycle of ratings cuts. In effect, the bond market has already done so. France already has a ratio of 57-per-cent government spending to gross domestic product (GDP), the highest of any major country. This will only go higher under a leftist regime. In contrast, this ratio is 34 per cent in the U.S. and 48 per cent in Sweden, which is unfairly considered a “socialist” nation.
We live in an integrated world economically, and nowhere is this truer than Europe. Other nations on the continent will also feel the repercussions of the elections in Britain but especially France as inter-country trade is high on the continent. Nor is the rest of Europe immune from the demographic, economic and political pressures facing those countries. Mass migration is still an issue and is causing social fabrics to unravel.
Europe seems to be entering a perfect storm of political uncertainty, continued economic stagnation, demographic problems and high equity valuations. Investors flee environments like this in favour of more stability and certainty. This leads us back to the the United States, which may not be perfect but has shown it can function with either a Democratic or Republican government. It still is economically dynamic and stable. The U.S. equity market has been led by only a few stocks so I would favour value stocks and small caps right now. The U.S. bond market is also a haven for nervous investors.
Despite all the issues Canada is suffering with these days, we look pretty good compared to Europe. We still have the U.S. market and will have an election next year. The Conservative Party looks likely to win, and it would be a stretch in my view to consider its leader Pierre Poilievre far-right. The Liberals will likely change leadership and move from a hard technocratic progressive to a more moderate position. So a far-left or far-right future is not in the cards for Canada and that is good for investors.
We would also favour Asia and Eastern Europe right now, which enjoy more social cohesion and better equity valuations than the larger and more industrialized European countries.
The world is becoming an increasingly uncertain place for investors. Portfolio positions in countries with high degrees of uncertainty were always a poor choice unless one bets successfully on a miracle turnaround which, although rare, does occur at times. Europe is entering a new period of instability. It will not be the first, nor the last.
Tom Czitron is a former portfolio manager with more than four decades of investment experience, particularly in fixed income and asset mix strategy. He is a former lead manager of Royal Bank of Canada’s main bond fund.
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