Wellian Weekly 10.08.2020

UK Economy vs UK Stock Market

Economies and stock markets across the globe have seen a major shake-up this year, and the UK was no exception. The coronavirus crisis has impacted all parts of our daily lives – from the way we work to the way we communicate with friends. However, the impact on UK businesses was profound, with most unable to operate over the period.

The latest data suggests the UK economy shrank 19.1% over February, March and April. But there are some early signs of recovery. In May alone, the economy grew 1.8% as the nation began to emerge from lockdown. Around 89% of businesses were in operation by the end of June, with more starting to begin trading in July and August.

But even when they are open again, lots of businesses will face huge challenges. Social distancing measures mean many businesses cannot accommodate their usual number of customers. Consider restaurants – you are not going to fit as many diners in the restaurant if each group must be two metres apart. That means restaurant takings will be lower.

Another concern is that the uncertainty causes companies to cut costs by scaling back expansion plans or laying off workers. If people are fearful for their jobs, they will put off big decisions like buying a new house or car, until there is more certainty. This could ultimately cause a drag on the growth of the economy. Some estimates suggest that the size of our economy will still be well behind pre-crisis levels at the end of next year.

With everything that has been going on with coronavirus, you would be forgiven for forgetting about Brexit. The UK officially left the European Union on 31 January 2020 and is now in an eleven-month transition period. During this period, the UK remains in the EU's customs union and single market and must obey EU rules. The UK needs to agree and ratify a trade deal with the EU before 31 December 2020, or the transition period will end without a trade deal. Uncertainty around our future trading relationship with the EU could mean businesses delay making investment decisions until there is more clarity. This could cause a further drag on the growth of the economy.

The UK stock market is likely to remain sensitive to daily news flow about coronavirus and Brexit. Even though we have seen some stability in markets more recently, investors will likely want more reassurance that the coronavirus crisis is being handled effectively, and that we are making headway in Brexit negotiations.

The long-term outlook for the UK remains positive though. The UK stock market is truly diverse, with many companies making money both overseas and on home soil. That means they are not reliant on the UK economy to perform well. You can choose from global leaders in fields like consumer goods and pharmaceuticals, through to higher-risk smaller firms operating in cutting-edge industries and aiming to become the giants of tomorrow. In the middle there is a whole host of medium-sized firms which combine some advantages of scale with the capacity to grow quickly.

There are also a number of exceptional fund managers with a proven ability to make the most of what the UK stock market has to offer. Over the last year (data to 31 July 2020), the IA UK All Companies sector has outperformed the broader UK stock market by over 3%, meaning the average fund has outperformed the market, with smaller companies outperforming their large and medium sized peers.

It is fair to say that the UK stock market is one of the world's most unloved at the moment, and that could made it good value – the cyclically-adjusted P/E ratio (CAPE) for the UK market is currently well below the long term average, and investing when valuations are low gives you a better chance of long term success.

There will always be short-term volatility in stock markets, and things could get worse before they get better. But we suggest investors focus on the long term. As in previous crises, those who invested in a diversified portfolio and held on to their investments for the long term have generally been rewarded. 

 

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