It’s impossible for investors to know in which direction UK equities will head until the general election outcome and the Brexit approach is known, according to Rowan Dartington’s Guy Stephens.
With a general election set for 12 December and no possible resolution for Brexit clear until then, investors will be looking to the results with some anticipation.
Stephens – who is technical investment director at wealth manager Rowan Dartington – said the election is likely to be difficult for strategists to call at such an early stage and this is likely to have implications for the UK market.
“The markets are understandably in limbo, suppressed from direction as a hung parliament is a distinct possibility with all parties saying they won’t do any coalition deals with anyone,” said Stephens (pictured).
“The value of sterling is probably the best barometer as to what the markets think is going to happen.”
Performance of sterling in euro over 3mths
Source: FE Analytics
He added: “The UK equity market currently appears to believe that the Tories are going to achieve a workable majority and consequently ‘Get Brexit Done’ as is the party slogan.
“Whilst that outcome would most likely be achieved in the Commons with regard to passing the Withdrawal Agreement, all this means is that we then have just over a year, probably less with Christmas in the way, to agree a new trade agreement with the EU.
“This was always supposed to be the most difficult part and where the horse-trading and potential for disagreement was going to arise.”
Nevertheless, with the likelihood of a ‘no deal’ Brexit off the table, for the time being, “bombed-out” sectors that would have been most vulnerable have enjoyed a recovery, said Stephens.
“This has led to many commentators suggesting that investors should be seriously considering a switch from growth investments into value and that this could be the beginning of a trend following an inflection point in September and October,” he explained.
As the below chart shows, the MSCI UK Value index has risen by 5.68 per cent over the past three months, while its growth counterpart has made a loss of 0.75 per cent.
Performance of investment styles over 3mths
Source: FE Analytics
Yet, Stephens said that buying value stocks is not a sensible longer-term strategy for investors.
“Many of the so-called opportunities are priced cheaply for reasons of structural long-term decline and have not been overlooked as the market has focused on growth and technology,” he explained.
“They are actually value traps for the foreseeable future and there is a high likelihood that the end of the transition period will have to be extended and we return to the Brexit limbo dance after the election limbo dance.”
An under-pressure company like Marks & Spencer, said the Rowan Dartington technical investment director, will struggle to take back market share from online retailers while retaining a significant high street presence.
Performance of stock over 5yrs
Source: FE Analytics
Value stocks, said Stephens tend to be at their weakest during an economic slowdown but usually experience a bounce when the outlook improves because they have survived.
“Fundamentally, however, they are most likely still a challenged business with a weak business model,” he explained, “and unless they are in a unique turnaround situation or there is a negative sector influence which is about to change in a significant way, it is usually sensible to still be sceptical and possibly sell into the bounce if you have been unfortunate enough to hold the loss-making position.”
In comparison, said Stephens, growth stocks continue to look attractive despite concerns over valuations.
“Growth businesses tend to do well in economic slowdowns and during the early and mid-phase of an economic expansion,” Stephens added. “They tend to get sold-off when doubts about the economic expansion come to the fore and their premium valuation then looks too expensive based on the deteriorating outlook.”
As investors take risk of the table these stocks are sold early to lock-in profits, said Stephens, which he said has arguable already happened.
“So, it is too late to sell, but there is likely to be further growth ahead as economic expansion resumes,” he concluded.
“Therefore, we would continue to stick with quality-growth businesses going forward as we foresee an improved economic environment both globally, in the US and, shall we say, a less gloomy outlook in the UK with some Brexit certainty if the polls and currency markets are proved right.”