The Olympic Effect on London’s Markets

With London in the starting blocks for the Olympic Games, there is a belief that the event will give a much-needed boost to U.K. equity markets —although the two-week-long sporting spectacle is set to claim an unlikely victim, the government bond market.

Bulge bracket investment bank Goldman Sachs has looked into the economics of the event and has found that the stock markets of recent hosts of the Olympics have outperformed in the year after the Games. Of the last seven Olympics, all hosts have outperformed the benchmark MSCI World Index in the following 12 months.

“This is true of recent hosts regardless of the size of the economy or state of development, suggesting either the local market is boosted by the international profile of the Games, or is perhaps relieved to have the Games behind them,” said the Goldman Sachs report on economic research on the Olympics.

“Given the below-average performance in the UK since the Olympic announcement, UK investors may hope for a continuation of this trend, looking forward to a positive year in equities following the London 2012 Games.”

However, the Games, which start in just over two weeks’ time and run from July 27 to August 12, are likely to bring travel chaos to London’s already congested roads. London mayor Boris Johnson has urged many Londoners to work from home during the Olympics so that the capital’s creaking infrastructure can cope with the huge influx of visitors.

“With the Olympics not far away, it makes sense for businesses to think about what impact they will have on the day-to-day running of their business,” said Gerry Donnachie, head of underwriting at AXA Business Insurance.

And because of this, the UK Treasury is calling off its weekly gilt auctions for a four-week period from July 19 to coincide with the Olympics. It is afraid that too many bond traders will be working from home or not at all during the event, raising the specter of a “sloppy” auction which could force the Exchequer to pay more to borrow, the Financial Times reports.

Economists say the absence of new gilt auctions could have serious knock-on effects. As the Bank of England has just approved another round of gilts purchases of £50bn, extending the program to £375bn in total, to help boost the economy, it may have to slow this down because of the Olympic effect as buying gilts in a market where no new securities are offered could distort interest rates.

However, there may be attempts to mitigate the situation with very heavy issuance planned immediately before and after the four-week auction absence.