Why The Budget Won’t Hurt The FTSE 100 In The Long Run

The budget tomorrow may be of great interest for people living and working in the UK, but it is unlikely to have a major impact on the FTSE 100.

Certainly, tax changes, reductions in spending and news on the country’s outlook regarding the budget deficit could cause investor sentiment to change somewhat in the very short run. However, the reality is that the FTSE 100 is today an international index that is much more dependent on the performance of the world economy, rather than just the UK economy.

For example, around 17% of the FTSE 100’s performance is determined by the share price movements of resources companies. Although the UK still has oil and gas activities in the North Sea, as well as limited mining operations, the resources companies listed on the FTSE 100 are very much focused elsewhere in the world. And their prices are, in turn, highly dependent upon commodity prices, which are determined to a large extent by demand from China and other emerging economies.

It’s a similar story in other industries. Although the UK is a global hub for financial services, the FTSE 100’s major banks have international operations and are heavily impacted by events across the globe. And while there are a large number of listed UK-focused stocks, the reality is that the top five holdings in the FTSE 100 — HSBC, BP, Shell, GlaxoSmithKline and British American Tobacco — make up over 23% of the index, and are dominated by their non-UK exposure. So, changes to personal taxation and spending in the upcoming budget are unlikely to significantly move their share prices in the short run.

Of course, a budget that states that the UK’s national debt is spiralling out of control, in which taxes are  increased in order to raise government income, could severely dampen investor sentiment. In such a scenario, the FTSE 100 could record modest falls on the day and in the very short term, but the reality is that the UK economy is performing relatively well.

That’s especially the case given the fact that our main trading partner, the EU, is continuing to struggle to stay out of recession and just recently decided to cut interest rates and increase quantitative easing. As such, the upcoming budget may deliver further spending cuts and some tax changes, but it is unlikely to paint the UK as a basket case which is struggling on a relative basis.

As for the future performance of the FTSE 100, it is likely to be relatively impressive. That’s because the global economic outlook remains bright, with the US economy continuing to record upbeat economic data and China gradually transitioning towards a consumer-focused economy. And while the Eurozone struggles to deliver growth, the ECB now seems to be on board with a major stimulus programme which in, in time, should boost GDP growth across the region.

Certainly, the FTSE 100’s performance has been disappointing since the turn of the year and it could worsen in the short run. But this would most likely be due to a falling oil price or worsening outlook for the world economy, rather than because of  tomorrow’s budget.

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Peter Stephens owns shares of BP, British American Tobacco, GlaxoSmithKline, HSBC, and Royal Dutch Shell. The Motley Fool UK has recommended GlaxoSmithKline, HSBC, and Royal Dutch Shell. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.