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Peter Geikie-Cobb‘I wanted to follow up on Blair Campbell’s excellent article where he wrote about the opportunities in the UK.’

Brexit has certainly been hanging over policy makers and corporate decision makers in the UK over the last three years. Since the referendum in 2016, the economic data in the UK has broadly surprised to the upside – see chart below. This was most prominent immediately after the referendum as commentators factored in huge uncertainty while in reality the economy held up pretty well. In addition, the economy outperformed the consensus significantly during Q1 of this year, put down to stockpiling ahead of the anticipated departure date on 29th March and then fell off a cliff in Q2 as Brexit’s postponement caused more uncertainty. The Citigroup Economic Surprise Index measures the extent that data surprises against the consensus forecast both positively and negatively.

Citigroup Economic Surprise Index – UK

Source: Bloomberg

As a result of all of this, markets have demanded more risk premium for UK assets. Having rallied approximately 6% in Q1, GBP trade weighted index has fallen back to near its old lows seen in September 2016 in the aftermath of the referendum result. Having held steady in Q1 in anticipation of a more benign economic outlook, 10 year UK gilt yields have fallen by 50 basis points in the last 3 months. In addition, the FTSE 250, which gives a better reflection of the fortunes of the UK domestic economy, has underperformed the broader market by about 5% over the last 12 months. On a global basis the UK has also significantly underperformed as the chart below from Invesco demonstrates.

Valuation relative to 20 year average – UK vs RoW: Widespread Opportunities in UK

Source: Invesco, DataStream & Panmure Gordan

This chart takes the average valuation of the UK and Rest of the World equity markets relative to the 20 year average and measures the standard deviation from that average. As we can see, not only is the overall UK market significantly under-valued but all the sectors are too. The relative undervaluation is of course much more pronounced when plotted against the US stock market.

The point I am trying to make here is that, at some point, we would expect the Brexit uncertainties to be resolved and much of the bad news, including the possibility of a ‘no deal’ Brexit, is discounted into UK assets. Consequently, in our Dublin multi-asset funds we have been increasing our exposure to domestic UK assets which, on an absolute and relative basis, look to be pricing in a record period of future economic gloom. While this could take time to pan out, investors in the domestic sector are being paid a 5% dividend while they wait.

Download: Weekly comment, Peter Geikie-Cobb – 15072019


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