- Despite the UK facing the weakest prospects for economic growth of any major world economy, including Russia, the country’s blue chip index hit record highs this week.
- Alongside the near-term market factors catalysing investment flows into UK equities, analysts see some more structural shifts in investor behavior.
- “Boring is the new sexy. With a wealth of exposure to energy, materials, consumer goods and healthcare companies, the FTSE 100 appears well positioned for the current environment,” said Jason Hollands, managing director of online investment platform BestInvest.
A staff member looks at a FTSE stock index board in the atrium at the offices of London Stock Exchange Group Plc in London, Britain, Thursday January 2, 2020.
Bloomberg | Bloomberg | Getty Images
LONDON – Britain’s FTSE 100 index closed above 8,000 points for the first time on Thursday. One analyst suggests the reason UK stocks are in demand is that ‘boring is the new sexy’.
Despite Britain facing the weakest economic growth outlook of any major world economy, including Russia, the country’s blue-chip index hit record highs this week, closing at 8,012.53 on Thursday.
After a difficult year in 2022, when rising inflation, steep rate hikes and dwindling consumer confidence set stock markets around the world on fire, the UK market started Friday trading in 2023 up 7.5% so far, although this lags behind lagging behind the 9.5% gain – European Stoxx 600 index.
The FTSE 100 fell 0.25% on Friday morning in London as risk assets sold off across Europe, although losses were significantly smaller than in France and Germany.
“Right now the UK and Europe are in an inflation sweet spot; it’s not cooling fast, but it’s cooling faster than many expected,” said Danni Hewson, head of financial analysis at UK investment platform AJ Bell.
“It inspires confidence that consumers may have set aside just enough to make ends meet; that these controversial gains enjoyed by these energy giants will not last forever because energy prices are falling rapidly.”
UK annual headline inflation fell to 10.1% in January for the third straight month, although it remains well above the Bank of England’s target of 2% as the labor market remains unusually tight.
Headline inflation in the eurozone also fell to 8.5% in January for the third straight month, recovering slightly faster than in the UK
Despite expected recessions, the UK and European economies have so far managed to slightly beat expectations and stave off a downturn.
The UK has also benefited somewhat from a return to economic stability following last year’s market turmoil in the wake of former Prime Minister Liz Truss’ ill-fated economic plan.
Mild weather in northern Europe and high natural gas supplies have helped the region stave off fears of a power shortage this winter.
Record gains in sectors heavily weighted in the FTSE 100, such as energy, commodities and financials, have also helped push the index higher, along with a weak sterling helping overseas earnings to be denominated in dollars.
The index is heavily composed of multinational companies with high proportions of dollar-denominated earnings and offers investors comparatively large dividend payments.
But alongside the short-term market factors catalyzing investment flows into a market that has spent many years in the wilderness, analysts see some more structural shifts in investor behavior.
“Despite the new high for the index, UK stocks remain incredibly cheap as the FTSE 100 trades at a multiple of 10.7 times forecast earnings. Both of these are low in comparison [the] longer-term trend, and it’s also one of the biggest discounts for the rest of the world in living memory,” said Jason Hollands, managing director of online investment platform BestInvest.
“This is a good starting point pointing to the potential for further gains while UK equities also offer an attractive dividend yield at around 4.0%.”
This has led major investment banks to be increasingly rosy about the UK, but many retail investors remain skeptical given the bleak outlook for the domestic economy.
“In recent years many investors have dismissed UK blue chip stocks as ‘boring’ due to lack of access to exciting sectors such as technology and social media. But in a tougher economic environment, solid companies that pay reliable dividends are worth considering,” Hollands said.
“Boring is the new sexy. With a wealth of exposure to energy, materials, consumer goods and healthcare companies, the FTSE 100 appears well positioned for the current environment.”
In contrast, Wall Street is taking a more negative view of economic resilience in the US, with strong payrolls data and falling producer prices being interpreted as a signal that the US Federal Reserve may continue its aggressive rate hike.
Too soon too far?
Despite the outpouring of positive news for Europe and the UK, not everyone is optimistic.
The UK government’s planned withdrawal from its energy bill support program and the lifting of the household energy price cap means the cost of living crisis is not going to abate anytime soon. Meanwhile, higher interest rates and taxes, curbing fiscal stimulus and the fallout from Brexit complete an “uncomfortable picture,” according to Frederique Carrier, head of investment strategy at RBC Wealth Management.
Carrier also highlighted a risk to corporate profits, which in the UK and Europe were mainly supported by “Covid-19-induced pent-up demand at a time when stimulus measures were inundating consumers with cash”.
“This backdrop has allowed companies to weather higher input costs and raise margins that are at all-time highs, but the situation has evolved,” Carrier said in a statement last week.
“The pent-up demand has largely been exhausted, supply chain disruptions have largely resolved themselves and inventories have been built up. Companies’ pricing power could be undermined, especially as there is increasing evidence that they are turning to cheaper goods.”
As a result, Carrier hinted that the “easy” stock market gains could be in the past as the economic environment remains difficult, although overall valuations in the UK and Europe remain attractive compared to the US, which should keep the regions on investors’ eye.