Picture your Future. Save for it by earning 1.5% on a 1-year Term Deposit Account! Learn more.

Franklin Templeton Thoughts: Why UK Equities Now?

The global economy continues to recover from the COVID-19 pandemic, but some countries are opening up faster than others and experiencing greater degrees of growth this year. The United Kingdom is one that has seen a strong economic rebound, and its equity market has weathered the storm. But, with new uncertainties ahead—including the threat of inflation—is now a good time to invest in UK stocks? Ben Russon, Richard Bullas, Dan Green and Will Bradwell of our UK Equity team discuss.

The UK equity market has weathered the pandemic period but continues to trade at a discount to other major markets. We’ve been asked why this is the case, and if now is a good time now to invest. The wise Sir John Templeton once said that history shows that time, not timing, is the key to investment success. Therefore, the best time to invest “is when you have money”. That said, we are bullish on UK equities for many reasons, and see a number of potential opportunities across the market capitalisation spectrum.

Inflationary Impacts

As the global economy emerges from the pandemic, the key debate in the financial markets surrounds inflation; whether we are experiencing the start of a paradigm shift into a more inflationary world, or whether the elevated inflation data we are seeing at the moment is a function of transitory forces distorted by the pandemic. Whether inflation winds up as a short- or long-term phenomenon has big implications for the pricing of financial assets of all kinds and has far-reaching consequences.

The world’s largest economy, the United States, is accelerating out of the pandemic, and inflation is, too. Commodity prices have risen, and there are lingering supply bottlenecks. For decades, the US Federal Reserve (Fed) has failed to achieve its 2% inflation target, but the core Personal Consumption Expenditures Index—the Fed’s preferred inflation gauge—jumped above 3% year-over-year in April. However, Fed officials have dubbed inflation as “transitory” and remain focused on boosting employment.

Similarly, UK consumer price inflation has risen above the Bank of England’s target, but policymakers also believe it will be transient and that UK inflation will return to historic norms in years ahead and not breakout to sustained high levels. For several decades, deflationary forces have been a feature of the global economy, driven by structural forces such as demographic trends, the impact of technology and the internet—which have improved productivity—global indebtedness, China’s rise within the world economy, and the demise of trade unionism. Ultimately, we would need to see price increases translate into ongoing above-average wage increases in order to generate a sustained inflationary spiral; this is not something that is immediately apparent.

Inflation matters to the markets for a number of reasons—one being its impact on monetary policy. Accommodative monetary policy globally has helped drive asset prices higher, and the reduction or removal of quantitative easing and rising interest rates will trigger a repricing of risk-assets. It wasn’t all that long ago that we were debating negative interest rates in the United Kingdom, but interest-rate expectations have increased as economic data has shown strength. That said, it appears we are still at least two years out from getting back to pre-pandemic interest rate levels, and more importantly, the UK market has not experienced a re-rating on the back of monetary loosening.  Both these factors would suggest investors do not need to be overly concerned about a normalisation of rate policy as a significant threat to the UK market.

Upside Economic Surprises

As mentioned, the economic data have been strong in recent months, in many cases far surpassing expectations. The United Kingdom’s aggressive vaccine rollout has helped reopen the economy and get us back to some sort of normality—UK gross domestic product forecasts are grouped around high-single-digit numbers if the re-opening continues. The UK Economic Surprise Index—which tracks whether published economic data exceeds or misses forecasted expectations—has surged in recent months.

People were very pessimistic when the pandemic first broke; for example, if you look at the housing data at the start the pandemic, people assumed UK house prices would fall and while they did initially, they rebounded quickly. The housing market has been more robust this year than many had expected, with prices up 10% in March versus the same time last year—the fastest rate of growth in 14 years.1The pandemic actually created forced savings; because the economy was shut down consumers could not spend on things they normally would—holidays, socialising and all the spending that goes with that. So, there is a lot of pent-up demand that could drive strong economic growth beyond this year, which, from an investment standpoint, is positive for domestic cyclical stocks, including areas like construction and leisure.

While COVID-19 variants represent a potential threat, the hope is vaccines will be able to restrain another resurgence. As of end-June, 85% of adults in the United Kingdom have had one vaccine dose and 62% have had two, far exceeding that of continental Europe.

UK Stock Valuations Haven’t Kept Pace

Many investors had shunned UK equities after the 2016 Brexit vote passed, and stocks experienced a de-rating at that time that made UK equities particularly cheap compared with other markets—and they still are. This disparity was compounded by the re-rating of global equities that occurred through the course of the 2020 rebound, making the UK market look very good value on a relative basis.

The UK bourse benefits from a number of interesting domestic plays—particularly within the middle and small end of the capitalisation spectrum. These companies are generally outperforming their large-cap peers this year because of the quicker rebound in demand. We have also seen strong demand for more growth-orientated companies such as within the technology and digital sector, particularly the companies that will benefit from the acceleration of trends we’ve seen during the pandemic—such as remote work, e-commerce, etc.  Many of these smaller companies have a domestic focus and offer a large and diverse number of stocks across an array of industries and niche specialist markets, which provide the potential for superior earnings growth. While a number of these businesses suffered during the pandemic, in many cases, they’ve come through with strong balance sheets and enhanced market positions, leaving them well-placed for a strong recovery.

While we also see good opportunities in larger companies, macroeconomic factors outside the United Kingdom tend to have a greater influence on the multinationals, so investing at the smaller end of the capitalisation range can offer greater exposure to the UK domestic economy. Furthermore, many investors don’t realize that the UK boasts a number of world-leading technology companies at the smaller end of the market. Profits have not yet recovered to 2019 levels, but as the momentum in the recovery builds in the second half of this year and into 2022, we think there is a good chance we’ll see a continuation of accelerated profit growth.

Many companies have acted to reduce and control their cost bases over the past year and are emerging in excellent health with strong balance sheets. Many went through a period of cash conservation, paying down debt, cutting and reducing capital expenditure plans. That means they are coming through the pandemic in a strong position to capitalise on the opportunities ahead and have the opportunity to enhance their competitive position and grow their market share.

As we look for opportunities within the UK market, these are the types of companies we seek—those that are well-positioned to take full advantage of the post-pandemic period. For example, we are seeing industrial demand start to strengthen as economies and businesses start to reopen, together with low inventory in the supply chain, which offers opportunities in areas like autos, electronic components and distribution businesses.

Additionally, we have seen a step up in mergers and acquisitions (M&A) as both corporate and private equity take advantage of their strengthened capital position and the UK valuation opportunity ahead of a more sustained period of recovery and growth. We are also seeing more companies listing on the public markets this year which is providing a pipeline of interesting investment opportunities—the volume of initial public offerings in the United Kingdom in the first quarter of 2021 was higher than any other quarter since early 2018. So, we think there will be even more opportunities for investors going forward, and we are excited about the prospects for the UK equity market.



Franklin Templeton Key risks & Disclaimers:

Important Legal Information

This material is intended to be of general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any security or to adopt any investment strategy. It does not constitute legal or tax advice.

The views expressed are those of the investment manager and the comments, opinions and analyses are rendered as of publication date and may change without notice. The information provided in this material is not intended as a complete analysis of every material fact regarding any country, region or market.

Data from third party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user.

Products, services and information may not be available in all jurisdictions and are offered outside the U.S. by other FT affiliates and/or their distributors as local laws and regulation permits. Please consult your own professional adviser or Franklin Templeton institutional contact for further information on availability of products and services in your jurisdiction.

Issued in the U.S. by Franklin Templeton Distributors, Inc., One Franklin Parkway, San Mateo, California 94403-1906, (800) DIAL BEN/342-5236, franklintempleton.com—Franklin Templeton Distributors, Inc. is the principal distributor of Franklin Templeton’s U.S. registered products, which are not FDIC insured; may lose value; and are not bank guaranteed and are available only in jurisdictions where an offer or solicitation of such products is permitted under applicable laws and regulation.

CFA® and Chartered Financial Analyst® are trademarks owned by CFA Institute.

What are the risks?

All investments involve risk, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments. Smaller and newer companies can be particularly sensitive to changing economic conditions. Their growth prospects are less certain than those of larger, more established companies, and they can be volatile. Actively managed strategies could experience losses if the investment manager’s judgment about markets, interest rates or the attractiveness, relative values, liquidity or potential appreciation of particular investments made for a portfolio, proves to be incorrect. There can be no guarantee that an investment manager’s investment techniques or decisions will produce the desired results.



MeDirect Disclaimers:

This information has been accurately reproduced, as received from Franklin Templeton Investment Management Limited (FTIML). No information has been omitted which would render the reproduced information inaccurate or misleading. This information is being distributed by MeDirect Bank (Malta) plc to its customers. The information contained in this document is for general information purposes only and is not intended to provide legal or other professional advice nor does it commit MeDirect Bank (Malta) plc to any obligation whatsoever. The information available in this document is not intended to be a suggestion, recommendation or solicitation to buy, hold or sell, any securities and is not guaranteed as to accuracy or completeness.

The financial instruments discussed in the document may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein.

If you invest in this product you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.

Join MeDirect today to access the tools you need to put your money to work on your own terms.

Latest news articles

Experience better Banking

The sooner you start managing your money, your way, using the best-in-class tools, the sooner you’ll see results. 


Sign up and open your account for free, within minutes.

MeDirect_Multi-Devices-cards

You are leaving medirect.com.mt

Please be aware that the external site policies, or those of another MeDirect website, may differ from this website’s terms and conditions and privacy policy. The next website will open in a new browser window or tab.

 

Note: MeDirect is not responsible for any content on third party sites, nor does a link suggest endorsement of those sites and/or their content.

Login

We strive to ensure a streamlined account opening process, via a structured and clear set of requirements and personalised assistance during the initial communication stages. If you are interested in opening a corporate account with MeDirect, please complete an Account Opening Information Questionnaire and send it to corporate@medirect.com.mt.

For a comprehensive list of documentation required to open a corporate account please contact us by email at corporate@medirect.com.mt or by phone on (+356) 2557 4444.