The strong performance of UK stocks over recent years might continue, according to FE Alpha Manager Leigh Harrison, who says that though valuations are beginning to look stretched, there are a number of positive factors which can push the market forward. 
Though there has been volatility along the way, the FTSE All Share has posted positive gains in each of the last three calendar years and has started 2015 in a similar vein as it was already up 8 per cent by the end of April.
According to FE Analytics, the FTSE All Share has gained more than 60 per cent since the 2011 lows caused by the European sovereign debt crisis, after investors felt comfortable taking more risk due to central bank intervention in the form of ultra-low interest rates and quantitative easing programmes, as well as improving economic data.
However, as the graph below shows, the FTSE All Share is currently lagging behind global equities as represented by MSCI World index over that time.
Performance of index since August 2011
Source: FE Analytics
Considering the market has delivered such strong performance over a relatively short space of time, a number of experts have warned that a more difficult period might be on the cards for UK equity investors.
But Harrison (pictured), head of UK equities at Columbia Threadneedle Investments, says there are a number of positives for UK stocks, while admitting that the outlook is far more opaque than it has been in previous years.
“First, excessive liquidity and policy support could be regarded as a relative benefit. Next, many sectors of the market should benefit from the ‘cost of living crisis’ coming to an end. And also, on a relative basis, the UK market has underperformed other developed markets, suggesting increasing value in the space,” Harrison (pictured) said.
“The excessive amount of liquidity as a result of QE programmes and continuing accommodative policy from central banks is benefiting equities relative to other risk assets.”
“With wages finally having overtaken inflation, which has been supressed by falling energy prices, and interest rates at all-time lows, the environment for the consumer in the UK is becoming increasingly positive.”
He added: “This is reflected by consumer confidence reaching its pre-recession peak.”
Despite these positives, Harrison, who co-manages the five FE Crown-rated £3.4bn Threadneedle UK Equity Income fund, is careful not to get too carried away.
He points out that earnings growth has been absent for some time and that the market has largely been driven by multiple expansion. He is also concerned that the outlook for growth is still uncertain.
For example, the manager says the added liquidity from the world’s central banks has had a huge effect on risk assets: “Equities have benefited from the impact of QE on bond yields and accommodative central bank policy eliminating the returns from fixed interest investments.”
On top of that, though improving economic growth is clearly positive, he says that if it does surprise on the upside it will signal a reduction in accommodative policy and the beginning of rate normalisation, which would result in volatility in the immediate term.
Looking beyond those apprehensions, the manager says investors should hold onto their UK equity exposure.
“The environment is so distorted by excessive liquidity and policy actions that the run could certainly continue, as the focus of central banks will remain on accommodation. The re-rating in the UK market has continued despite modest earnings. Valuations have therefore begun to look stretched,” he said.
“However, we are hopeful that positive earnings revisions will begin to come through that will support the next leg of the re-rating.”
“The environment is positive for the consumer and also for many industrials that can benefit from a weakening pound and lower input costs. This could drive positive earnings upgrades that have been absent in the UK market in aggregate for a number of years.”
Given Harrison’s views on the current market and his belief that consumers will start to benefit from the falling oil price, Threadneedle UK Equity Income fund is currently overweight the consumer services, industrials and healthcare sectors but underweight financials, oil & gas and basic materials.
“The collapse of commodity prices has supressed inflation but this is surely a positive for the consumer and many UK companies,” Harrison said.
All in all, though, the manager says investors need to be more vigilant in the current market conditions as he expects returns to be harder to come by than in recent years.
“We like the asset class still but the appeal has reduced in aggregate over the last couple of years with the re-rating. It is now all about stock specific fundamental analysis to find companies that can grow their earnings in a low-growth world – this is how we build our portfolios,” he said.
Looking at the manager’s track record demonstrates his ability to analyse markets and the businesses within them, although it must be noted that past performance is no guide to the future.
Harrison has managed the Threadneedle UK Equity Income fund since February 2006 and he was joined by co-manager Richard Colwell in September 2010.
According to FE Analytics, the fund has been one of the best performers in the IA UK Equity Income sector over Harrison’s time on the fund with returns of 113.99 per cent (to 30 April 2015), beating its FTSE All Share benchmark by more than 35 percentage points in the process.
Performance of fund versus sector and index since Feb 2006
Source: FE Analytics
The fund is also outperforming the index over one, three and five years. Those returns have been consistent as well, given it has beaten the index in seven of the last eight full calendar years.
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