A hike in the base rate by the Bank of England is unlikely to have a big impact on UK markets no matter when it happens, according to Franklin Templeton’s Colin Morton.
Markets rolled back some of the gains made during 2017 earlier this year as strong economic data spooked investors wary of faster rate hikes by the Federal Reserve.
Indeed, a rise in the Bank of England base rate also seemed highly likely but a drop-off in inflation and weak GDP growth during the first quarter has delayed those expectations of a hike.
Nevertheless, the hint of any rise in rates has proved enough to unsettle investors but Franklin Templeton’s Morton said those fears are overdone.
Having previously warned that markets were “walking a tightrope” over potential rate hikes, Morton said higher rates are unlikely to have a significant impact on the UK market.
He said: “The schematics of the market are ridiculous, it doesn’t really matter if rates go up in May, June or August. Who cares?
“It’s a completely pointless argument, but that’s the way the equity market is at the moment.”
Short-term interest rates in the UK
Source: OECD
Morton (pictured) explained: “We’re talking about interest rates maybe going to 0.75 per cent from 0.5 per cent. 
“We’re not talking about interest rates going to any ridiculous number and we’re not talking about an interest rate that is going to undermine the whole economy or valuations.”
The co-manager of the Franklin UK Equity Income fund said that with high levels of debt – on a corporate, government and individual level – a significant move in interest rates would have a swift impact on the economy and, as such, is unlikely.
As a result, Morton said there was less pressure on the Bank of England to raise rates as quickly as in other international markets.
Morton said the process of policy normalisation is likely to be very slow, taking a number of years before interest rates reach 2 per cent. Even at such a level, a 2 per cent base rate would still not undermine the investment case for equities.
“We acknowledge in the short term interest rates go up, people get nervous and the market will move around,” he said. “But you have to take a step back and ask whether you’re comfortable buying the equity market at these levels based on what you think is going to happen with the rate outlook.”
From an income perspective, UK stocks presented an attractive investment compared with the yields available on 10-year UK gilts, which have been yielding around 1.5 per cent more recently, for example.
He said while gilt yields may rise, UK equities still present a compelling investment argument from an income perspective with yields upwards of 4 per cent on offer.
Of greater interest to the manager was the sell-off in equity markets in the opening quarter of 2018, which has since rallied to levels seen at the start of the year.
Performance of FTSE All Share YTD
Source: FE Analytics
The Franklin Templeton manager said he was surprised by how sharp the sell-off had been. However, the downwards market movement had provided some fresh investment opportunities following a 2017 characterised by little movement in share prices.
“We got into the situation where, in the US in particular, got into a 14/15-month stretch where the market never fell more than 2 per cent of the high point it had been at, which had never happened before in history,” he said.
“It’s nice to have more normal volatility because it does create opportunities. It was very difficult when everything seemed to be going up together.”
Morton said the current environment was much more positive for active managers than passive strategies, noting that greater volatility is normal compared to long-term market trends.
The fund manager said the UK equity team had used the sell-off in markets to make a number of changes to its portfolios.
One company he had sold out of is Victrex, which had benefited from greater international revenues following post-referendum fall in sterling but could now be challenged by the strengthening of the currency.
Morton also disposed of catalytic converter specialist Johnson Matthey and medical equipment firm Smith & Nephew.
He has added to the portfolio with acquisitions such as home furnishing retailer Dunelm, which reflects Morton’s view of an improving environment for the UK consumer.
The manager has also bought life insurer Aviva, as the company emerges from a restructuring process, and asset manager Jupiter Fund Management, which has been hit by outflows more recently.
“We’ve basically been selling a few of our overseas stocks that have done well for us and have been adding a few more UK-centric companies where the valuations have been hit very hard over the past six to 12 months,” said the manager.
“Generally, we’ve been very lucky. We’ve continued to see inflows coming in, which is nice, as a lot of people have been struggling. We were lucky to be taking money into the fund when the market has been weak.”
Broadly, Morton said the outlook for the UK economy also seems more positive as recent data has shown, highlighting the drop-off in inflation from 3 per cent towards the beginning of the year while stronger wage growth suggested a rise in real incomes.
“All in all, we’re pretty relaxed there are a lot of opportunities out there,” he added.
Morton has been a manager of the four FE Crown-rated Franklin UK Equity Income fund since 1995 and is joined by FE Alpha Manager Ben Russon and Mark Hall.
Over the past three years, the fund has delivered a total return of 28.11 per cent, compared with a gain of 22.42 per cent for the FTSE All Share benchmark and a return of 19.71 per cent for the average IA UK Equity Income fund.
Performance of fund vs sector vs benchmark over 3yrs
Source: FE Analytics
The fund has an ongoing charges figure (OCF) of 0.52 per cent and is yielding 4.14 per cent.
Morton is also a co-manager on several other funds, including Franklin UK Rising Dividends, the four FE Crown-rated Franklin UK Managers’ Focus fund and Franklin UK Opportunities.