RBC Wealth Management, together with other investment houses, discuss the case for upgrading a stance towards UK and European equities.

The UK equity market has been a laggard among global peers since Brexit, but bargain-hunting investors have been showing renewed interest. 

RBC Wealth Management has just upgraded its stance towards UK equities to "market weight" from "underweight". Although UK equity performance has been disappointing this year, Thomas McGarrity, head of equities for RBC Wealth Management in the British Isles, thinks that prospects may be improving.

“Investors are hoping that the Bank of England’s recent decision to pause rate hikes could be a positive catalyst. The pound has been weakening as a result of the pause, mitigating an important headwind for equities,” McGarrity said in a note.

“Moreover, the UK’s blue-chip equity index, the FTSE 100, typically outperforms when value stocks outperform growth stocks given the index’s bias to old economy industries such as energy, mining, and banks. This dynamic has been supportive recently, with rising oil prices helping to buoy the energy sector,” he continued.

As a result, McGarrity is upgrading his standpoint on UK equities. In particular, he is alert to opportunities in the energy sector, as well as in globally diversified, high-quality businesses whose valuations remain at a notable discount versus international peers listed in other markets. Nevertheless, he acknowledges the challenging domestic economic prospects and remains cautious on domestic stocks.

McGarrity is not alone in his views. Dina Ting, Franklin Templeton senior vice president and head of global index portfolio management, also recently explored the positive trends that are now making a case for holding UK equities.

Having endured many plot twists since the UK voted to leave the European Union in 2016, Ting said that the UK stock market has been a laggard among global peers. But with a flagging US stock market, investors are again eyeing the UK’s undervalued and long-unloved market. She thinks there is now an appealing case for investors to hold UK companies that seem to be showing good prospects and perhaps a recognition of undervalued stocks amid a slew of buybacks across several sectors to boost shareholder returns. See more here.

There are dissenters about the case of shifting a view on the UK. For example, Max Thowless-Reeves, co-fund manager of the Sorbus VECTOR Fund, a UK All Cap Equity Fund, run by UK private investment office Sorbus, told WealthBriefing on Friday that they have not upgraded their sentiment towards UK equities. “UK equities are cheap, but they deserve to be for several reasons, including the composition of the benchmark, the structural biases imposed on UK pension funds from investing and UK (and European) social and environmental policies that are anti-growth. UK equity, in aggregate, is a value trap,” he said.

European equities
RBC Wealth Management continues to recommend an underweight position in European equities.

According to Frederique Carrier, head of investment strategy for RBC Wealth Management in the British Isles and Asia, European equities have markedly lagged the S&P 500 Index over the past six months, owing to the sharp deterioration in the region’s relative economic momentum.

“The main culprits for this backdrop are softening global demand for Europe’s manufactured goods, particularly in China, and the European Central Bank’s aggressive interest rate hiking cycle. Moreover, compared to other regions, the MSCI Europe ex UK Index has lower exposure to growth stocks, and to technology stocks in particular, which have outperformed in recent months amid the surge in interest around artificial intelligence,” Carrier said in a note on Friday.

Following their bout of underperformance, she thinks European equities have a particularly attractive valuation, both in a historical context and relative to the US. Even taking into account differences in sector exposure, the MSCI Europe ex UK Index trades at a historical discount to the S&P 500.

Carrier continues to recommend an underweight position in European equities as she thinks weakening macro and earnings' momentum will remain headwinds to the region’s ability to outperform. Economic momentum has stalled since the spring, but this does not appear to be fully reflected in earnings' expectations. Given the more muted economic environment, she thinks consensus earnings' forecasts are at risk of being downgraded.

Against this backdrop, Carrier would remain selective: “For the patient investor, some attractive opportunities may be emerging in sectors which have sold off heavily, such as luxury stocks that suffered due to their China exposure.”

Carrier's views have been echoed by Mathieu Racheter, head of equity strategy research at Swiss private bank Julius Baer, who favours US over European equities, with a focus on quality growth names coupled with some defensive plays. See more here.