The election result has plunged the UK into a period of significant political uncertainty. There have been calls for Theresa May to resign, and there is the potential for a relatively weak minority government formed by the Conservatives and DUP. This could be just the beginning of an intense period for UK politics.
In just over a week, the UK is due to begin Brexit talks with the EU. This was already expected to cause significant uncertainty for the UK political scene, as well as for the UK economy and investors. Now, though, there is the prospect of a weaker government than anticipated; the make-up of which has not yet been finalised. It would be unsurprising for share prices to become increasingly volatile, as well as suffer from declines due to deteriorating investor sentiment.
Therefore, buying defensive shares such as gold miner Randgold Resources (LON:RRS) could be a good idea. Already, the company’s shares have moved higher following the election result. They could deliver strong returns if the UK political and economic outlook continues to be highly uncertain. As well as this, the company offers an improving balance sheet, upbeat growth forecasts and a relatively appealing valuation.
The UK outlook in a political and economic sense is now highly uncertain. The last time a hung parliament occurred was in 2010, when the Conservatives and Liberal Democrats entered a coalition which survived for a full five-year term. Now, though, forming a successful coalition could be more challenging for the Conservative Party.
A Conservative coalition with the DUP could create challenges over the medium term. Brexit talks are set to commence shortly, and even a slim majority in a coalition with the DUP may create difficulties for the Conservatives due to the different views on Europe from within the party. There are also differing views between the Conservatives and DUP on whether Brexit should be ‘hard’ or ‘soft’, which may lead to greater uncertainty further down the line.
Heightened political risk is likely to negatively impact on confidence in the UK economic outlook. Businesses, investors and consumers could delay spending decisions and this may lead to a deterioration in the UK’s macroeconomic performance. This could be reflected in the performance of stocks which are focused on the UK. Their share prices could become increasingly volatile and, ultimately, may offer negative returns over the short run.
The appeal of gold
Against this backdrop of uncertainty, gold could have significant appeal. In the past, it has been viewed as a defensive asset and a store of wealth, with its price often performing well during periods of political and economic uncertainty. While the UK election result is a domestic affair, gold-mining companies could be of interest to UK investors for two main reasons.
First, they may become more popular due to their defensive appeal. This could lead to rising share prices for gold miners such as Randgold Resources. Its shares are already up following the election, and it would be unsurprising for them to move higher.
Gold miners such as Randgold Resources could offer high relative returns.
Second, the relative performance of gold-mining shares may be high. As mentioned, an uncertain political outlook in the UK may lead to reduced confidence among investors, businesses and consumers. The result of this could be further downgrades to the UK’s economic forecasts at a time when higher inflation and Brexit talks have already made the future difficult to predict. Therefore, when compared to stocks which rely on the UK for a sizeable portion of their sales and earnings, gold miners such as Randgold Resources could offer high relative returns.
Aside from the political instability caused by the election result, Randgold Resources offers an appealing investment opportunity for the long term. The company is benefiting from increased production and a higher gold price. For example, in the first quarter of the year its gold production increased 10% versus the same quarter of the previous year.
This helped to push profit up 33%, which is having a positive impact on the company’s balance sheet. With no debt and a $600 million cash pile, Randgold Resources seems to have the financial flexibility to invest in exploration and mine development, while also raising dividends per share at a fast pace. Dividends in the previous financial year were subject to a 52% rise, which could continue in future.
Given the prospects for higher inflation, a fast-rising dividend could make the company an appealing income stock, even though it currently yields just 1%. By 2018, though, it is expected to yield 2.6% due to forecast dividend growth, which is expected to be aided by rising EPS over the next two years. This gives the company a PEG ratio of 1, which suggests it offers growth at a fair price for the long term.
The election result has caused a significant amount of political instability. This could continue in the short run and lead to declining business, investor and consumer confidence. The effect of this on the UK economy and on the share prices of UK-exposed companies could be negative. Therefore, investing in relatively defensive shares such as gold miners could be a sound move, since they have historically been popular destinations for investors seeking a flight to safety.
As well as its defensive qualities and the prospect of outperformance of UK-focused shares due to heightened political risk, Randgold Resources also offers strong standalone investment potential. It has a sound balance sheet which continues to improve due to its rising production rates and a favourable gold price. In spite of this, its share price seems to offer capital growth potential due to a relatively low valuation.
Therefore, for investors seeking an alternative to stocks which could be negatively impacted by a hung parliament, Randgold Resources could be a logical option.
Robert Stephens, CFA, owns shares in Randgold Resources.