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UK stocks are trading close to a record discount relative to their Wall Street counterparts, luring some bargain-hunting investors back to the country’s battered stock market.
London-listed equities have lagged behind peers in recent years as heavyweight sectors like banking and energy have failed to keep pace with the rapid growth of technology stocks, and political uncertainty following the 2016 vote to leave the EU weighed on the market.
While US and European indices have chalked up a succession of record highs this year, the FTSE 100 has yet to eclipse its February 2023 peak, despite enjoying its best week since September as investors have become more confident that the Bank of England will deliver multiple interest rate cuts this year.
UK stocks have long traded at lower valuations than US markets, but recent underperformance has left the UK market looking particularly cheap. Forward price-to-earnings ratios — a commonly used valuation metric — of stocks on the MSCI UK index are 47 per cent lower than those on the US equivalent, according to asset manager Schroders. The 48 per cent discount in January was the largest in data going back to 1988.
The transatlantic gulf reflects a lack of investor enthusiasm for the UK market, which is heavily weighted towards sectors like banks and mining, and lacks the high growth technology stocks that have powered Wall Street’s rise. Some UK companies have pointed to higher valuations when choosing to list in New York rather than London.
Bank of America’s latest monthly survey, published on Tuesday, found that fund managers remain net 27 per cent underweight in the UK, and have been consistently underweight since July 2021.
Still, cheap UK stocks are starting to grab the attention of fund managers.
“The thing that gets me excited about UK equities is just the amazing value that’s on offer within the market”, said Alex Wright, a portfolio manager at Fidelity International. He prefers value stocks, which could benefit as we “return to a more normal inflation and interest rate environment”, and said financials are the largest position in his portfolios.
He added that it was “pretty anomalous” to find appealing stock valuations at present, with many global indices soaring to successive all-time highs. A recent rise in dealmaking activity and share buybacks was proof that both corporates and private equity groups recognise “this obvious value signal”, according to Wright.
The UK economy has also held up better than economists forecast, offering further support for the country’s “staggeringly cheap” equities, according to HSBC strategist Edward Stanford.
HSBC prefers domestically focused mid-cap stocks, such as the FTSE 250, which are better placed to benefit from cooling inflation and low unemployment in the UK, said Stanford. He added that the UK’s main equity indices are “very exposed overseas” so offer “a great way to play a global recovery”.
Some investors are less optimistic and point to the fact that the valuation gap has widened steadily since 2016 without attracting major investment.
“Given the macroeconomic challenges of the UK, it’s difficult to make a firm call on the UK market overall, but there are definitely some great bargains to be had,” said a partner at a multibillion-dollar hedge fund.