The City of London woke this morning to news that America's second-largest city (Los Angeles, according to the wires) is engulfed in electoral chaos. Ballot boxes allegedly stuffed, recounts halted, and protesters clashing with police. This is the sort of headline that makes a prudent investor reach for the antacids. But the initial market reaction was curiously muted. FTSE 100 futures barely blinked. Sterling held steady against the dollar. And yet, beneath the surface, the bond market is telling a different story.
Let us be clear: the integrity of the US electoral system is not a trivial matter. It is the bedrock upon which the global financial edifice rests. When that foundation cracks, capital flees to safety. But where, precisely, is safety these days? The traditional havens, US Treasuries, are now themselves tainted by association. If the world's largest economy cannot manage a peaceful transfer of power, why should anyone trust its debt?
The answer, for now, is that there is no alternative. But this complacency will not last. The benchmark 10-year gilt yield has already drifted lower by 12 basis points this week, not because of a sudden surge in UK patriotism, but because the market is pricing in a global flight to quality. And for all its post-Brexit ailments, the UK still boasts a credible central bank, a functioning legal system, and a government that (mostly) respects election outcomes.
Britain stands ready to advise? The Prime Minister's offer of 'technical assistance' to US electoral authorities was met with predictable derision from Washington. But the subtext is clear: we have been through this. The chaos of the 2020 US presidential election, the storming of the Capitol, the years of recriminations. We saw it, we warned about it, and we built our defences. The result is that London is now the world's leading centre for clearing US dollar derivatives, a fact that the Chancellor never tires of mentioning.
Yet the real question for investors is not whether America can hold a free and fair election, but what happens if it cannot. The probability of a contested outcome, perhaps decided by the Supreme Court or even the House of Representatives, is not zero. And in that scenario, the dollar will come under immense pressure. Gold, the eternal refuge, has already broken through $2,400 an ounce. Bitcoin, the millennial alternative, is trading at $72,000. Both are signalling a loss of faith in fiat currency, which is ultimately a loss of faith in the institutions that back it.
The Bank of England has been characteristically silent on the matter, but its monetary policy committee will be watching closely. A sudden spike in US political risk would likely delay any rate cuts, as the Bank would need to maintain a premium on sterling to prevent capital outflows. Higher for longer, as the cliché goes, but with a side order of election-induced volatility.
Let us not exaggerate the immediate danger. The US is not about to descend into civil war. But markets are not about immediate danger; they are about discounting the future. And the future is increasingly uncertain. The era of American exceptionalism, which has underpinned global asset prices for decades, is being questioned. Investors should consider diversifying away from US assets, particularly government bonds, and into alternatives that are less dependent on the smooth functioning of the world's largest democracy.
For the UK, this is both a threat and an opportunity. A weakened dollar and a loss of confidence in US governance could accelerate the shift towards a multipolar financial system. London, with its deep pools of capital, its independent judiciary, and its time zone bridging Asia and the Americas, is well positioned to be a safe harbour. But it must avoid the temptation to gloat. Schadenfreude is not a sound investment strategy.
In the meantime, keep an eye on the VIX, the volatility index. It is still below 20, but it has a habit of spiking when least expected. And remember the first rule of financial journalism: when the news is bad, the numbers are worse. The election chaos in LA is a story that will run and run. The City will be watching, and pricing in the risks, one gilt yield at a time.
