Investment Strategies

Four Reasons To Buy UK Stocks – Schroders

Amanda Cheesley Deputy Editor 20 May 2024

Four Reasons To Buy UK Stocks – Schroders

Graham Ashby, UK all cap fund manager at investment manager Schroders, discusses why now could be a good time for investors to increase their exposure to UK shares.

The FTSE 100 may be scaling new all-time highs but, unlike in Japan, where the Nikkei 225 recently achieved the same feat, few commentators are talking about a turning point, according to Graham Ashby at Schroders. The UK equity market remains in a sorry state if you believe the headlines.

“With sentiment so low though, contrarian investors might argue things can only get better,” Ashby said in a note this month. US investor and philanthropist Warren Buffett once remarked that it’s wise for investors to “be fearful when others are greedy and greedy when others are fearful.”

“As ever, Buffett has been busy eating his own cooking. He invested heavily in Japanese stocks a few years ago when many commentators were writing off the stock market. And he’s been rewarded handsomely for it,” Ashby continued.

The Nikkei 225 – which tracks Japan’s largest companies – is the best performing major index year-to-date (at least in local currency terms). “Could UK equities be at a similar position to where Japanese ones were two years ago, and about to take off?” Ashby questioned.

Equity investing always carries risks and trying to time shifts in markets is far from being an exact science. Ashby outlines four contrarian indicators which underline how bad sentiment has become, and consequently how large the potential opportunity might be.

Contrarian indicator 1 – dearth of IPOs
“A dearth of new companies coming to the market, or initial public offerings (IPOs) may not be helping the mood of investment bankers given the lack of juicy fees. History clearly shows, however, that increased UK IPO activity typically corresponds with a short-term peak in the equity market – witness the high levels of IPO activity in 2008 and 2021, compared with current depressed levels,” he said.

Contrarian indicator 2 – low valuations right across the market
“Valuations are also extremely attractive across the entire size spectrum of UK companies. Hence the pick-up in “incoming” bids from overseas competitors and private equity acquirers for FTSE 100 and small and mid-size companies, such as constituents of the FTSE 250 index,” Ashby continued. “Foreign bidders are clearly seeing the opportunity to secure attractive assets and market positions at knock-down prices.” 

Contrarian indicator 3 – rock-bottom pension ownership
“Domestic pension funds are increasingly mature and have reduced allocations to volatile equities in an effort to better manage their liabilities,” he said. “Data from the UK’s Office for National Statistics shows that domestic pension funds now own just 1.6 per cent of the UK equity market compared with around 33 per cent back in the 1990s.” 

“Meanwhile, the Capital Market Industry Taskforce, a cross-industry group looking at ways to reform the UK equity market, estimates the domestic equity allocation is 2.8 per cent. On either measure, domestic ownership is low relative to other territories,” Ashby said.

“Nobody has a crystal ball regarding exact timing, but it’s hard to see that domestic pension funds can significantly further reduce their exposure to UK equities,” he added. "And what’s to stop a new government from mandating a certain minimum level of UK equity exposure within pension portfolios, following on from the current administration's announcement of a British individual savings account (ISA)?"

"It seems that something needs to be done to encourage long-term investment in UK-listed companies. If action is taken at some point, we may see increased demand at a time of limited supply. This would be good for asset prices and hence returns for patient UK equity investors. Time to be greedy. Let’s not forget either that demand from private UK investors is hardly sky high either," Ashby continued.

Contrarian indicator 4 – shrinking UK stock market
On the issue of supply, more confident management teams are buying back shares at a very rapid clip. Additionally, some UK companies are considering relisting their shares in the US (attracted by a potentially bigger pool of capital and higher valuations), and that’s not even mentioning those companies set to be lost to bids. Again, less supply when demand may be set to increase – it may be time to get greedy.

Other investment managers
Ashby is not alone in his views. Frédérique Carrier at RBC Wealth Management believes that there are opportunities in 2024, despite the subdued economy, and recommends a market weight position in UK equities. 

She is backed by Dina Ting, senior vice president and head of Global Index Portfolio Management Franklin Templeton, who said investors are again eyeing the UK’s undervalued and long-unloved market. "Outflows have recently slowed in the UK as investors have been signalling a return of some optimism for the economy’s enticingly cheap investment prospects,” Ting added. Alec Cutler of Orbis Investments has also highlighted the case for investing in UK firms, saying that it is an undervalued market. “UK firms are dirt cheap, amongst the cheapest in the world, and they are good,” Cutler said. See more commentary here, here and here.

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