Three Reasons UK Stocks Could Do So Well Out Of The Global Recovery

Three Reasons UK Stocks Could Do So Well Out Of The Global Recovery
Milou Beunk

about 3 years ago3 mins

Mentioned in story

What’s going on here?

Positive news on coronavirus vaccines has sent investors scrambling in search of stocks that should do well in a world returning to some semblance of normality. This ongoing “Big Rotation” is seeing many mid-pandemic favorites supplanted by potential beneficiaries of resurgent global economic growth – and long-unloved UK stocks appear particularly well placed in this regard.

What does this mean?

The global recovery is expected to kick off in earnest next year as the vaccine rollout of the coronavirus vaccines allows businesses, and therefore economies, to reopen. Most analysts would agree that such growth is crucial to ensuring the investment outperformance of stocks compared to bonds – but with numerous indexes and individual shares hitting fresh all-time highs, the big question is: what to buy?

Here’s an idea. If you’re looking to buy into a market that’s got a broad international focus, stands to benefit from a pickup in growth – i.e. consists largely of economically sensitive “cyclical” stocks – and isn’t priced at peak levels already, then I reckon British stocks could be one of your best bets.

Why should I care?

Global focus: The FTSE 100 is the UK's most important index, comprising the 100-odd most valuable companies listed on the London Stock Exchange. As shown in the below chart, three quarters of their sales are made outside the UK – while the equivalent figure for the US S&P 500 is less than a third. As economies reopen and global trade recovers, Britain’s biggest firms should benefit from having such geographically diversified revenues.

Proportion of sales made overseas
Proportion of sales made overseas (Source: FTSE Russell)

Cyclicality: The FTSE 100 also includes a lot of companies in the financial and energy sectors. These companies tend to be quite cyclical – meaning their fortunes follow the ups and downs of the wider economy and they tend to be most profitable during periods of prosperity. The US stock market, on the other hand, is heavily skewed towards the technology sector, helping explain why it’s hit record highs recently. Nevertheless, a shift away from such “growth” stocks and towards cheaper “value” ones – which includes many of those cyclical companies – has now begun to take place.

Sector rotation
Source: Bloomberg, Financial Times

It’s also worth noting that big in Britain is still pretty small fry across the Atlantic. The FTSE 100’s total “market capitalization” $2 trillion-odd is around the same as that of just a single US company: Apple. And at risk of sounding repetitive, it just so happens that smaller stocks are expected to trump larger ones in the months to come.

Cheapness: As previously mentioned, the FTSE 100 hasn’t done well so far this year; in fact, its performance actually comes in last compared to other big stock markets around the world, as per the below chart. While many others have recouped the spring’s losses, the FTSE 100 remains almost 20% below pre-pandemic levels.

Performance of big stock markets around the world
Source: Financial Times, Refinitiv

The good news, however, is that this leaves the index as one of the cheapest anywhere when assessed by the popular price-to-earnings (P/E) valuation ratio.

Price-to-earnings valuation metric
Z-score is distance from the mean. Source: TS Lombard

Of course, no discussion of UK stocks would be complete without mentioning Brexit. While share prices would likely fall should the country fail to agree a trade deal with the European Union by year’s end, the British pound would also fall. And with a cheaper currency making UK exporters’ goods more attractive to their many overseas customers, things might not be all bad.

Bear in mind that the Big Rotation from pandemic winners to post-vaccine outperformers represents a so-called tactical view – a short-term investment decision based on anticipated price movements rather than a long-term “secular” shift. Tech stocks, for example, will probably continue to boast superior earnings growth prospects, helping the US market remain strong in the long run. Still, if you – like me – think that UK stocks are a good bet to bounce in the near term, then check out the iShares Core FTSE 100 UCITS ETF as a way to play that premonition.

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Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

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