Steering a course to UK equities for the opportunities ahead

Compass dial

It’s not an easy time to be an investor. 2020 was a rollercoaster year whatever asset class you invested in. Even looking ahead, it’s understandable that investors may be nervous about making any big asset allocation decisions at the moment. However, at times of uncertainty and change, some of the best investment opportunities can reveal themselves. And right now, we believe the UK equities market is a case in point.

Here we explain why it could be an interesting time for investors to reconsider allocating to UK equities.

Down but not out

For several years now, UK equities have lagged most global equity indices, and buying them today is still the counter-consensus call.

However, it’s precisely when perceived wisdom is to avoid an asset class that we believe investors can make the most exciting relative and absolute returns. As such, we think there’s huge opportunity today in the UK equities market, and it’s one that global investors are just starting to notice.

We think there’s huge opportunity today in the UK equities market, and global investors are just starting to notice.

We all know the reasons why UK equities have been out of favour. Since 2016, Brexit has cast a shadow of uncertainty over UK assets. More recently, Covid-19 hit the UK worse than almost any other large economy.

But what drives the market is what happens next. Brexit has happened and we know the detail of the trade deal the UK and EU have signed. Any change from here is likely to be in the form of more sector-by-sector deals, particularly on the services side, which investors would welcome.

As for Covid-19, we believe the UK can bounce back strongly from the crisis. Indeed, after the huge economic hit in 2020, there’s significant pent-up demand that the reopening of the economy will release. Crucially, that’s likely to happen sooner in the UK than in other countries, given the impressive pace of the UK’s vaccine rollout so far.

All of a sudden, we find there are tailwinds for UK domestic stocks rather than the headwinds we’ve been facing for the last five years. That’s a significant shift.

Global appeal

So that’s the domestic backdrop for UK equities. But that’s not all that matters. Investors appear to have forgotten just how global the UK equities market is and the opportunities that brings.

UK domestic stocks only represent about 27% of the revenue of the UK equities market. In fact, many UK-listed companies provide access to growth across the world. The UK market’s valuation, however, reflects very little of this.

Ever since 2016, UK stocks have traded at a discount to their peers listed elsewhere. That’s even when you adjust for the sectors in which they operate, and even where those sectors are truly global. The discounts on some UK stocks range from 10% to as much as 50% compared to their US peers, depending on the sector.

The fact is, markets aren’t as efficient as we’re sometimes led to believe. In all likelihood, international investors have probably looked at what’s been happening in the UK domestically and decided to allocate elsewhere.

But over time, we believe that value will out. And in the current world of low interest rates and low returns, the UK’s 3.5% market dividend yield with growth will attract investor flows.

Good governance

So, improving fundamentals and cheap valuation make the UK equities market attractive. But there’s another important consideration for investors, and that’s the governance framework of the asset class in which they’re investing.

The UK’s corporate governance standards should be a significant pull for investors. In particular, the protections that are afforded to minority shareholders in the UK are world leading. Principles like ‘one share, one vote’, a binding remuneration vote and free float limits mean that, as fund managers, we can meaningfully engage with the companies in which we invest on our clients’ behalf. This engagement allows us to exert real influence to make sure clients’ rights are respected and their interests prioritised.

These high governance standards are more important and valuable than people often realise. They can provide confidence that the returns you expect to make will actually accrue to you.

Final thoughts …

As we’ve highlighted, there are many things aligning nicely right now for the UK equities market. It’s cheap, it’s under-owned and the newsflow is improving. Furthermore, it offers access not just to the UK domestic recovery but to global growth, and with some of the best shareholder protection available.

So, while the rest of the investment world may be looking in the rear-view mirror and allocating elsewhere, now could be an opportune time to increase exposure to UK equities.

View Article – published by Aberdeen Standard Investments on 5th March