The International Monetary Fund’s recently upgraded its forecast for UK GDP, putting it as one of the best performers in the G7 this year.
Although the news is positive for the economy, its impact on equity markets is less certain.
Markets have been rising strongly over the past few years with the FTSE All Share up 36.88 per cent in two years, leading many to question how much upside is left.
Performance of index over 2yrs
Source: FE Analytics
Equities have been more subdued so far this year, with markets trending sideways. Geopolitical events in Iraq and Ukraine, and poor US GDP growth in the US have all been significant headwinds.
Some experts remain optimistic for the future however, seeing the recent soft-patch as a potential opportunity for investors.Here are the views of three.
Mike Deverell – investment manager at Equilibrium
The outlook for equity markets has improved following the GDP news, Deverell says.
“The economy is looking fairly robust, certainly compared to other economies around the world and we seem to be back at pre-crisis levels six years ago,” he said.
“It has been a really, really long hard road to get there and has been the worst depression the UK economy has ever seen.”
“The news has been evident in other data already such as business surveys, so a lot of it is already reflected in equity prices.”
However, Deverell thinks that there is more to come from UK domestic businesses, which are set to benefit from a strong consumer.
He believes companies at the lower end of the market cap scale are set to benefit most, as larger companies tend to have more international exposure, where growth and demand is less positive.
“If you look at the large cap end of the market in the FTSE 100 you’re talking about companies where 50-80 per cent of earnings are coming from overseas and therefore it makes the GDP numbers less relevant,” he said.
“However, it is quite positive for the smaller end of the market where you tend to have more domestically focused companies.”
The FTSE 250 has made almost double the gains of the FTSE 100 over the past six years, despite falling harder in the aftermath of the financial crisis.
Performance of indices over 6yrs
Source: FE Analytics
However, this year it has underperformed relative to the FTSE 100 with 60 per cent of funds in the IMA UK Smaller Companies sector losing money.
This, Deverell says, could be viewed as a buying opportunity.
He also points to improving GDP growth as a boon to commercial property, which he believes will see rental growth from hereon in.
“Commerical property is also looking like a very attractive asset class due to the GDP figures,” he said.
“If the economy continues to do well then you can therefore expect commercial property to carry on doing well. We are very positive on it because when you look back at the historical numbers there is a really high correlation to GDP.”
James McCann – OECD economist at Standard Life Investments
McCann is also positive on the outlook for equity market – particularly as he says the growth is being more broadly felt across the economy.
“The recovery has shifted from being a consumer story to something that is broader and investment seems to coming through quite nicely,” he said.
“There is a good mix of sectors within the recovery. It is not just the service sector – you’re getting some growth across the board.”
However, he says equity markets tend to do better in the early stages of the economic cycle and so are unlikely to beat previous years in the aftermath of the crisis.
He agrees with Deverell that there is likely to be higher growth in smaller caps, due to the strength of the pound.
“We are positive on equities because those domestic drivers continue to provide support but there are a few other factors,” he said.
“The recent appreciation of sterling is a bit of headwind as a lot of listed companies get revenue from external sources.”
Mark Wharrier, co-manager of the BlackRock UK Income fund
The manager says that although the minutes from the monetary policy committee’s latest meeting suggest that the Bank of England will start to raise interest rates soon, the outlook for household cash flow growth is positive and domestic-facing companies should benefit.
“We have sought to take advantage of this improving economic backdrop for the UK by investing in Howdens Joinery,” Wharrier said.
“The combination of the strengthening UK economy with their unique business model has driven a substantial acceleration in sales and profits as well as significant market share gains.”
“Inflationary pressures, however, remain subdued given lower energy prices and competition driving down food prices.”
Later on in the week we shall be asking the more bearish experts what the end of the financial crisis means for UK equity markets.
