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Only LatAm is cheaper than the UK for investors right now

Despite news from the ONS last week that UK economy fell a 2.9% in January, following growth of 2.1% in December, investors remain confident about the prospects for UK equities in 2021.
Headlines of economic decline always grab attention, with two cons…

Despite news from the ONS last week that UK economy fell a 2.9% in January, following growth of 2.1% in December, investors remain confident about the prospects for UK equities in 2021.

Headlines of economic decline always grab attention, with two consecutive drops technically signalling a recession.

But as lockdown measures hit, the 2.9% drop was better than the 4.9% decline economists had feared and the recent roadmap towards a reopening of the economy is providing investors with confidence that the UK can avoid another recession.

Economists at Deutsche Bank recently estimated that, once lockdown eases, higher earning Brits will help boost UK GDP this year by spending a tenth of the nation's GBP160bn (£222.6bn, EUR186.5bn) pot of excess savings that were built up over the pandemic.

"It is no surprise to see that the restrictions put in place throughout have had an impact on the economy, but it is also welcome news that our economy is holding up better than expected," said Luke Davis, chief executive of IW Capital.

"UK businesses have shown true resilience throughout January and we have even seen the emergence of new businesses starting up, which is sure to create some exciting investment opportunities and will play a key role in the nation's recovery," he added. "Investors now need to look towards these businesses in order to enable future growth post-pandemic."

An emerging market?

William Dinning, chief investment officer at Waverton Investment Management, said the UK has gone from being the second most highly rated market in 2016 to the second lowest rated today.

Trading at a 27% discount to the rest of the world, he noted only Latin America is cheaper.

"The UK has suffered in recent times from its lack of large technology stocks and the relatively high proportion of energy companies, mining companies and banks in its benchmark index, among the worst sectors to own recently," he said. "This is one of the reasons the UK is trading like an emerging market."

But, given that Brexit is now a reality and not a risk, Dinning said this suggests the UK discount from an asset allocation perspective should shrink.

"Add the fact that the UK government has taken more decisive action to support its economy than in Europe and the UK will be a beneficiary of any reflation trade, particularly as the composition of the market is more suited to that environment courtesy of its high energy, mining and banking exposure," he said.

He added: "One could imagine a scenario where all UK assets rise together if sentiment shifts, as we expect it to do in the coming months, whatever the short-term difficulties in making Brexit work."

Keep calm and carry on

Give the introduction of the national lockdown 3.0, Paul Craig, portfolio manager at Quilter Investors, said it was not surprising to see the economy go back into reverse in January.

For Craig, the bigger question is going to be what impact this lockdown will have on long-run growth, particularly given that the real unlocking of the economy will not take place until April.

"This is likely to be a sobering first quarter of economic growth, but for now it is a case of keep calm and carry on," said Craig. "The government and the Bank of England will be thinking they just need to get through the first part of the year before the sun is shining once again."

While the successful vaccine rollout has provided hope of an economic rebound in the second half of the year, Craig added that it remains to be seen exactly how much of the huge mass of accumulated savings will actually be deployed by consumers.

"That said, the BofE remains on hand to support the government in keeping the economy afloat, and it still has more room within its response to help," he said. "What is clear, however, is that we are in this recovery fo the long haul, we just don't quite yet know how that is going to be."

A unique position

Considering the UK market's proliferation of 'sin stocks' in the form of oil, gas and tobacco, Chris Metcalfe, investment director at Iboss, said that it may come as a surprise that UK equities have outperformed other developed markets since October last year.

As a result, while this has worked against the UK in the past decade, Metcalfe noted the UK is now uniquely positioned to benefit from the reopening of the economy.

"Despite this recent period of success, many UK equities still look to us of offer good value from here," he said. "We believe the UK market is well-positioned if we move into a period where the performance drivers are very different from those of the last decade."

Within its model portfolios, Iboss currently favours the SVM UK Growth, Polar Capital UK Value Opportunities and Artemis UK Select funds to get exposure to UK equities.