In recent weeks, a host of banks including Deutsche Bank, Credit Suisse, Citi, and UBS Wealth Management have upgraded their recommendations for UK equities.
The latest to the party, Morgan Stanley, moved to an overweight stance last week, saying the “unloved and undervalued” UK should benefit from higher commodity prices and an increase in M&A activity despite Brexit uncertainty.
But UK equities have been out of favour since June 2016 when the UK unexpectedly voted to leave the European Union and since then, Brexit negotiations have failed to assure investors that the future for the domestic economy is rosy.
Indeed, the UK economy grew by just 0.1% in Q1, down from 0.4% at the end of the previous quarter, representing the UK’s weakest quarter of growth since 2012.
Yet the FTSE 100 smashed a new record high on Monday for the second time in a week, hitting 7,884 and putting the domestic stockmarket clearly at odds with the outlook for the UK economy.
8,000 and up?
Jordan Hiscott, chief trader at Ayondo Markets, is confident the FTSE 100 will hit 8,000 before the end of the summer, despite the gloomy outlook for the economy.
He says the key driver of the FTSE’s surge higher is the international make-up of a large proportion of the blue-chip index and its relationship with a weaker sterling.
“Going forward, the upward momentum and weaker currency is likely to continue and I wouldn’t be surprised to reach 8,000 before the end of the summer,” he adds.
Allocation quandary
This leaves wealth managers in a bit of a quandary. The FTSE may be nearing 8,000 but according to Morningstar data, a net £1.4bn flowed out of funds in the Investment Association’s UK All Companies and UK Equity Income sectors in April.
Ryan Hughes, head of active portfolios at AJ Bell Investments, says UK equities have reached a pivotal point as the country enters the nadir of Brexit negotiations and attempts to understand what a customs union might look like (see video).
“When we look at the outlook we do start to see some of the data tail-off a little bit, which is pointing towards increased difficulty for the UK from here,” he says.
But Hughes notes the UK stockmarket’s strength is driven largely by the overseas earners benefiting from sterling weakness.
He adds: “We are not completely negative but we do see some headwinds coming which is likely to make us a bit more circumspect towards our UK allocation but also makes us think much more carefully about having a more stock-picking approach to UK equities… rather than getting broad based exposure.”
Guess work
Andrew Merricks, head of investments at Skerritts Wealth Management, is particularly bearish on the UK at the moment, saying he is simply not willing to second-guess the outcome of Brexit.
He says: “I love the UK, personally, but as an investment proposition I can’t see it. It is not an investment if you don’t know the likelihood of the outcome. It could be a soft Brexit, a hard Brexit, no Brexit – whatever those phrases mean. That isn’t an investment proposition, it is guess work and we will wait and see what happens.”
Rather than allocate on a geographical basis, Skerritts prefers to take a thematic approach to its Esprit fund range on the belief that picking the right themes, such as cybersecurity, robotics and automation, and biotech and healthcare, will remain robust even through market corrections.
“When we get a definitive answer to Brexit then there will be massive opportunities and I expect that in itself will be a theme so we will rotate back into the UK then,” adds Merricks.
No surprise
Jeremy Hewlett, UK equity analyst and manager of the Mirabaud UK High Alpha fund, says the FTSE 100 hitting a new high is no surprise against a backdrop of synchronised global growth and low interest rates, and in a world where no one likes bonds and cash is overweight.
“Where is asset allocation going to go?” he says.
Hewlett believes the UK economy is much more resilient than most market commentators would suggest, supported by full employment, high job vacancies, rising real wage growth and low inflation.
He says: “In Q1, GDP number was 0.1% but don’t forget it was affected by March’s very bad weather and construction in particular had a poor outcome. Since the global financial crisis, UK annual GDP has been growing just north of 2% and we are into the 34th quarter of recovery. The last cycle was over 60 quarters so we are probably only half-way through a recovery cycle.”
Hewlett picks out housebuilders, financials that play to domestic saving themes and domestic technology as strong UK sectors. He says housing, in particular, is underpinned by favourable supply and demand dynamics and government policy from a planning standpoint and land buying disciplines.
