Chancellor Philip Hammond used his party conference speech yesterday to tell the public that the government is prepared to take “whatever steps are necessary to protect this economy from turbulence”.
Though he gave a nod to his predecessor’s commitment to fiscal consolidation, new spending plans are widely expected when he delivers his first Autumn Statement in November.
Record low interest rates mean that governments are able to borrow more cheaply than ever. And with accommodative monetary policy yielding diminishing returns for developed economies, Japan, the US and the UK are recognising the need for a complementary fiscal stimulus.
So where might Hammond choose to spend, and how can investors – deprived of returns at a time when 10-year gilts are yielding just 0.73 per cent – make the best of it?
Housebuilders’ shares rose yesterday on the announcement of £5bn of funding measures to accelerate the construction of new homes. This includes a £3bn Home Building fund, which will provide short-term loan funding to small construction companies, and £2bn in extra borrowing to support the construction of new houses on publicly-owned brownfield sites – which communities secretary Sajid Javid hopes can revitalise tired town and shopping centres, and increase housing density around transport hubs.
Rather than provide subsidised loans to homebuyers, as George Osborne did under Help to Buy, the new government’s announcement will directly benefit housebuilders themselves, with the explicit goal of increasing the UK’s housing stock.
But the £3bn of loans is being pitched at custom builders and innovators, and is aimed at creating new supply chains through offsite construction. FTSE 100 incumbents may be passed over in favour of FTSE 250 constituents, as Javid blasted developers for having a “stranglehold” on supply. Bellway, Bovis and Redrow (which rose 2.1 per cent yesterday) could benefit, says Darius McDermott of Chelsea Financial Services, along with industry-related stocks like Rightmove. Tilney Bestinvest’s Jason Hollands also points to the producers of aggregates and building materials.
The new government’s announcement will directly benefit housebuilders themselves, with the explicit goal of increasing the UK’s housing stock
Further good news could be on the way when the government unveils a housing white paper later this year outlining “further significant measures” to reach its goal of building 1m new homes by 2020.
Hammond held back any announcement on infrastructure spending in his party conference speech, but it is likely to be central to any plans for a fiscal stimulus in his Autumn Statement. The chancellor has explicitly addressed the need to increase the UK’s productivity, which trails that of France, the US and even Italy. Improvements to the UK’s broadband, railways, roads, power networks and other new projects might give a boon to the performance of other sectors of the economy, and mitigate some of the expected fallout as the UK splits from the EU.
“It looks like an obvious area if [Hammond] is interested in fiscal stimulus,” says Alex Wright, portfolio manager of the Fidelity Special Situations fund. “It is relatively easy to do because, generally, it is directly funded by the government. And projects are increasingly shovel-ready because George Osborne was interested even before the Brexit vote, so they will be able to get the cash spent reasonably quickly.”
“This is good for institutional investors who have been keen to see more projects come to market,” says Philip Dawes, head of UK institutional at Allianz Global Investors. “Indeed, the lack of institutional investment in the sector reflects a dearth of projects rather than a lack of available capital.”
Closed-ended infrastructure funds are a popular way for retail investors to access the sector, and many of these are currently trading at high premiums relative to the value of their assets. “If we start to see such [closed-ended] vehicles seek new funds from investors, demand is likely to considerably outweigh supply so potential investors should register their interest in participating in any such fund raisings with their broker at the earliest opportunity,” says Hollands. Other vehicles include ETFs, passive funds and listed companies like 3i Infrastructure, which has an annual dividend yield of 3.74 per cent.
If we start to see such [closed-ended] vehicles seek new funds from investors, demand is likely to considerably outweigh supply
The advantage for investors is that infrastructure projects offer fixed-rate cash returns over a long, defined period which will rise with inflation – an increasing priority as sterling falls. McDermott recommends open-ended funds, which allow investors to buy and redeem shares at any time. “The Legg Mason RARE Global Infrastructure Income fund, for example, has a 5 per cent yield and could benefit from infrastructure in other countries like the US and Japan.”
There has been some speculation that Hammond will focus on projects which can be up and running in a matter of years, not decades. Economic indicators since Brexit have been encouraging, but as negotiations begin, the economy could soften.
However, it is probably too early to say where the money will go. Indeed, the chancellor said in September that a fiscal boost would be through measures which “not only deliver short-term demand stimulus but also address longer-term structural problems in the economy”. Wright thinks there will be a bit of both. “It is easy to expand road and rail programmes faster. But HS2 has been in the planning for years, so it might be more likely that its construction will get the go-ahead, and a runway decision is expected soon.”
Economic indicators since Brexit have been encouraging, but as negotiations begin, the economy could soften
However, there can be hiccups. A planned £150m mobile infrastructure project was scrapped in March and there has been much dithering over the much-needed runway. Indeed, political risk is always a concern with infrastructure and the previous government had a patchy record.
Defence is another sector which is likely to benefit under the new government. Theresa May has affirmed the Nato commitment to spend 2 per cent of GDP on defence, and pledged in her opening party conference speech to “protect our national interests, our national security, and the security of our allies”. This week, the government releases £1.3bn of funding to BAE Systems, as it begins work on a new class of submarines as part of the programme to renew Trident, the UK’s nuclear deterrent.
Read more: Do we really want more public spending?
Other sectors may benefit indirectly if the chancellor decides to fund tax cuts on VAT or for the lower paid. Poorer people tend to spend a greater proportion of their income than the rich, so putting money in their pockets could have a greater multiplier effect on the economy. “The risk is that foreign investors get nervous and demand more yield to take on our debt,” says McDermott. “That’s a problem for the future though. Markets will probably like the short-term implications more and worry about the rest later.”