Risks and opportunities from a Labor win

As the market comes to terms with what is increasingly looking like an odds-on Labor election win in May, pundits and investors are assessing how some dramatic policy shifts, including the scrapping of excess franking credits as well as changes to capital gains tax discounts and negative gearing, are going to impact portfolios.

But while the widely held consensus is that an ALP victory would be an overall negative for the market, recent political history has shown that chickens are best not counted before they're hatched, with a Coalition victory or a hung parliament still within the realm of possibility.

Join Matthew Kidman from Centennial Funds, Matthew Booker from Spheria Asset Management and Roger Montgomery from Montgomery Investment Management to find out which stocks and sectors will thrive, and which ones will suffer under a Labor government.

Transcript

Matthew Kidman: It's election time, and the conservative types in the financial markets are shaking in their boots. Labour are odds on favourites to win. Change of government and a lot of change in rules, franking, negative gearing, lots to talk about. And to talk to me today about it is Matt Booker from Spheria and Roger Montgomery from Montgomery Investment Management. Good day. Let's start with you, Rog.

Roger: Sure.

Matthew Kidman: Looks like Labour are gonna get in. Is that good or bad for markets? Because the general feel is it's terrible.

Roger: If they got a majority in both houses it would be the first time since 1940 that we had a left-wing socialist government and an anti-investor government in power. I don't think that's going to happen. I think we're going to end up something closer to a hung Parliament simply because of the distrust towards both parties. Having said that, I do think that we end up in a situation where a lot of legislation doesn't get through. Consequently, I don't think we have to worry that much and we've got to remember that there's an election every three years.

Matthew Kidman: On that basis, Matt, the odds are against what Roger said. Hung Parliament seems like a distant opportunity. How do you feel about it? Especially if Labor do actually get in, which looks like the case?

Matt: Yeah, look, it would be a much more difficult market with Labor in given the policies they're discussing and they're promoting. But as Roger said, the legislation has to get through the Senate, and I think that would be a big stumbling block. So particularly on the franking credit side, there's a lot of self-funded retirees out there that would be disadvantaged under that scenario. I think it's quite negative for that constituent. So, you could actually see a push back as well where I think Liberal might do better than you think.

Matthew Kidman: Okay. Let's go down the path, the hypothetical Labor win. They've laid out quite a few of their policies, so we're fairly well informed going into an election. Who wins and who loses in terms of sectors in the share market?

Matt: I think the banks will lose. There's a lot of capital allocated to the banks, because you get a fully franked dividend. So, a lot of pensioners, a lot of self-funded retirees have bank shares in their portfolio. So, I think you'll see a discount applied to the banks and less capital allocated to the banks.

Matthew Kidman: So, who wins off the back of that?

Matt: Well, anyone short the banks probably wins. And off that I suppose the property trust sector benefits. Because they don't pay tax. They're a trust structure. So, I think there will be money that will move from banks probably to property trusts.

Matthew Kidman: Okay. Rog? Have you got a different view on that?

Roger: Well, no, similar, similar. It comes down to price obviously. I think there's a repricing of companies for the loss of the franking credits that have no value to companies obviously but a lot of value to recipients. So, the banks suffer, but so do any companies that have a high proportion of franked dividends and/or a high payout ratio. I think another group of companies are the leasing companies, the car novated leasing companies. Might remember one K. Rudd said that the whole thing was a rort. The last time Labor was in, when they had any sort of chance of putting legislation through, so they suffer. Property developers suffer. Land bankers, and if property developers suffer, that consequently pushes property prices down or land prices down. But then there are other companies that will benefit from that, take advantage of those lower land prices and ultimately …

Matthew Kidman: Why do they suffer? Because negative gearing stays on new developments.

Roger: Yeah, negative gearing stays on new developments, but when you've bought something off the plan the next buyer in the secondary market doesn't get the benefit. So you end up again with a lower premium. So, whether it's shares or trusts or because of the franking credits or property, you end up with a lower PE ratio if you like on all assets as a result of these tax changes if they got through. Remember, that's the caveat. But there will be companies that take advantage of that.

Matthew Kidman: Okay. So, let's go to the other side and stick with you, winners then. You said people might win off the back of that.

Roger: Yeah, look, I think a company like Peet Limited, which is a 124-year-old house and land package property developer, they've been very successful navigating the cycles. They're only a half-a-billion-dollar company, only a small company, but they've got a long history of being successful. They've just raised some money, and I think they're raising money in anticipation of property developers going broke not because of the structural changes, the consequence of government changing taxes or negative gearing, but because of the cyclical element anyway. And I think they benefit if property prices get pushed down even further as a consequence of Labor winning.

Matthew Kidman: Okay. Matt, let's go blanket again. Labor gets in. Consensus? Not so much here but generally? Market goes down, up or doesn't care as an index?

Matt: Look, I think it goes down and for all those reasons discussed. I mean some of the political strategies they're employing are quite negative for share market participants. I do agree with Roger, novated leases looks like a real risk to us. I would not own any of those companies that provide them. I think we don't have a domestic car manufacturing industry any more, so there's no protection required there. A lot of the people that take out salary packages for their cars are wealthy people, so I think that will be shut down. So, I'd be very wary of owning those companies.

Matthew Kidman: So down, come the 19th of May or the 20th or whenever after the election, you think the market will be …

Matt: I don't know the timing of it, but it will be on the agenda. And it's been really quiet so far, which means something's going to happen there.

Matthew Kidman: Okay. Shock scenario, Libs get up or Coalition get up. Market does what?

Matt: Relief rally. I think that'll be seen as positive. The Liberals are obviously pro-business, pro the share market. I think it will be a very positive outcome.

Matthew Kidman: Okay, Roger, same question to you.

Matt: Look, I think the downside as a consequence of Labor winning is a structural change and it takes time for that to feed through. There will be a lot of individual investors in the banks, for example, that will be going and seeing their financial planners. They'll have to get a statement of advice. It takes a long time before you see share registers change dramatically. So, it works its way through over several years, not necessarily instantly. But I think sentiment's definitely negative if Labor wins. If the LNP gets up, and I certainly hope they do, I'm not going to be afraid to tell you that I hope they do, I think Labor's on an anti-investor march. So, if they do get up, I think again relief rally, agree with Matt, it's a good thing, it's the status quo, which is by the way nothing really changes. Nothing good happens either.

Matthew Kidman: Well, the market has hardly moved since the LNP's been in.

Matt: Indeed. So, I think it's more of the same. That's better than the alternative.

Matthew Kidman: It's binary, Labor bad, Liberals good.