GB-EN Intermediary

Volatility ahead, but also growth potential for the UK market

Stock markets have been on a wild ride in recent weeks
August 2021
Peter Hewitt

Peter Hewitt

Director, Portfolio Manager, Multi Asset Solutions

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Risk Disclaimer

The value of an investment is dependent on the supply and demand for the shares of the Investment Trust rather than its underlying assets. The value of an investment will not be the same as the value of the Investment Trust’s underlying assets.
Views and opinions have been arrived at by BMO Global Asset Management and should not be considered to be a recommendation or solicitation to buy or sell any companies that may be mentioned.

Call it taper tantrums if you will. There has been a huge amount of attention on when the US Federal Reserve (Fed) will begin to rein in some of its stimulative policies. The central bank has been buying $120bn of securities every month so it’s no surprise that it’s been hitting the headlines.

Reading the runes in the latest commentary from the Fed and various market observers in the US, it’s clear that the programme is going to come to an end. The question is when, and how gradually it will happen.

It feels to me that ‘tapering’ will almost certainly be introduced this year. And it could be that something emerges from the forthcoming Jackson Hole economic summit in Wyoming that gives us more of an indication.

Market ructions

The reaction of markets, particularly in the US, where valuations are quite elevated, shows that there is likely to be volatility ahead. By that, I mean a big fall at some point. That’s not unexpected, and is not necessarily disastrous, as we could see stocks bouncing back quite sharply.

It’s possible that we can look forward to some gains in markets during the second half of 2021, but I think it’s likely that we may well see a month in which there’s a drop of some 5%-8%, or thereabouts. It could be September or November, or it might not be until January of next year. But it will most likely be followed by a bounce back.

That’s in part because corporate profits in the UK, US and Europe are coming in substantially ahead of estimates. It’s unlikely that we’ll move back into a bear market while profits, earnings and dividends across the corporate sector are performing so well.

While it’s true that UK shares have lagged their international peers over the medium term, the UK market has actually done relatively well since the rollout of vaccines began. And I don’t believe the UK will fall in a sustained way. Just look at the level of private equity-led mergers and acquisitions that we have had; this will help to keep a level of buoyancy in the market.

At the same time, I think that bond yields and inflation are going to move higher over the next year, and that changes what is likely to perform well in markets.

Positioning for volatility

In essence, over the past few months, I’ve been buying UK equity trusts, particularly those that are focused on mid-sized and small-cap domestic companies. For me, that has meant investment trusts such as Fidelity Special Values, Law Debenture, Artemis and Aurora. There are others.

The second part of this strategy has been to ‘top slice’ or take profits from the likes of Scottish Mortgage, Polar Capital Technology and Worldwide Healthcare – trusts that have done very well. I don’t mean outright sales – some of these trusts are invested in some very interesting companies and, in the long run, you’d want to be a holder. It’s more about reweighting and redeploying some of that capital into more value-oriented trusts with a UK and European bias, and towards more domestic companies.

The UK market is trading on a forward price-earnings ratio of 13-14 times; Europe is on about 17 times and the US is on 21 times. That is quite a gap, but what I see in the UK is not just profits growth, but genuine value.

That’s why I’m going to be focusing on smaller companies, where, let’s say, two-thirds of their revenues come from the UK, as opposed to the big FTSE 100 multinationals that generate the majority of their earnings overseas. I think there are some good opportunities here.

Investors will have to be on the alert, of course, as there is always the possibility that our fortunes go into reverse. We need to keep our eye on profits growth, infection rates and the spread of the Delta variant, particularly in the Far East. There will be volatility ahead, but there should be growth too.

Risk Disclaimer
The value of an investment is dependent on the supply and demand for the shares of the Investment Trust rather than its underlying assets. The value of an investment will not be the same as the value of the Investment Trust’s underlying assets.
Views and opinions have been arrived at by BMO Global Asset Management and should not be considered to be a recommendation or solicitation to buy or sell any companies that may be mentioned.

Subscribe to our insights

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