UK Investment Outlook: H2 2018 and Beyond

Chris Bailey, European Strategist, Raymond James Euro Equities*

“It is easy to hate and it is difficult to love. This is how the whole scheme of things works” Confucius

Typically the way it works in financial markets is that after generating the best quarterly performance for over five years, faith in an individual stock market will be rampant. Extrapolation, after all, is one of the most dangerous words in the investment world. Whilst it is true that perceptions towards UK assets have improved – for the first time in over a year, UK assets are not the most disliked versus historic norms in the most comprehensive monthly survey of global fund manager opinion – it is hard to say that faith has materially recovered. The last quarter also saw a generally lacklustre performance by the Pound and a decision by the Bank of England to pass on an interest rate increase.

So what is going on? As an open economy where international trade relationships have been a critical influence on the country’s political and economic power for many centuries, it is not difficult to see how the combination of tariff fears and Brexit uncertainty could be perceived as an uncomfortable pincer movement. And with muted real wage growth and a housing market that continues to stutter, individual household finances and wealth perception is under pressure too.

Outside the worsening of global trade related chat, have we not heard all of this before? At the turn of the year the twin peaks of Brexit and potential domestic political instability would have been cited as major risk points, supplementing the patchy economic backdrop. Frankly, none of these issues are going away soon and equity market investors, in particular, need a glass half full view of both ongoing trade and Brexit discussions. However, even in a world of complex political calculations and game theory related threats and credibility tests, I still expect the spirit of compromise to show through, as otherwise, all participants end up at a lose-lose point. In short, an aggressive trade war does not develop and Brexit ends up occurring but – in the terminology that has developed around the issue – ‘soft’ with a lengthy transitional period.

With these big issues unresolved but known knowns, strategy for UK investors for the balance of this year should again be concentrated on finding attractive, specific opportunities. In the equity markets, two clear trends in recent months have been an expansion in sourcedfrom-overseas takeover activity and the start of a rotation back into more domestic revenue and profit centred shares. Angst and low sentiment towards the UK equity market, aided by the lower Pound, have made UK equities more of an affordable target for foreign buyers, and a number of contested bids indicate a real demand. Similarly, a domestic economy that is far from perfect – but also not precipitously wilting into recession – can offer opportunity for stock selection in names with strong market shares, sensible balance sheets and – often – attractive dividend yields.

Whilst sticking with old-fashioned active investment management techniques appears the best tactic for equity market investors, spotting relative value opportunities for fixed income investors may prove more challenging. Whilst the immediate outlook for a sharp increase in UK interest rates is unlikely, current compressed yields across much of the fixed interest spectrum continues to make the likelihood of even positive income included returns from this asset allocation class difficult in 2018. UK investors would be wise to continue to look through the mist of uncertainty and keep the faith in their local equity market. Very low but improving sentiment levels usually take much more than a single quarter to play out… even with a backdrop of both ongoing trade and Brexit discussions, and much, much more. The darkest sentiment hour is usually just before the dawn.

Source: Ipsos Mori

You can read more articles from Chris Bailey and the Raymond James Investment Strategy Committee in the July edition of Investment Strategy Quarterly

*An affiliate of Raymond James & Associates and Raymond James Financial Services

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