UK equities "cheap for a reason" - UBS

UK equities have performed relatively poorly this year, but investors should be wary of the resultant valuation, according to UBS, as the indices are “cheap for a reason.”

The UK benchmark FTSE 100 index has gained 7.7% so far this year, but this compares badly with the German DAX , up 21.6%, the S&P 500 in the US, up 27.7% and the Nikkei in Japan, up 17%. 

“The UK market, the FTSE 100 in particular, looks ‘cheap’ when compared to other markets, as well as its own history,” said analysts at UBS, in a note. 

“Currently trading on a forward price-to-earnings (P/E) valuation of 11.4x compared to its long-run average of 12.8x, and with earnings appearing to be bottoming out, is now the time for the FTSE to shine? Unfortunately, the earnings story that supports the market's valuation, while improving, isn’t doing so enough to drive the index higher, in our view.”

The stock market and the economy are two different things, the Swiss bank added. While the UK economy is set to do relatively well next year, thanks in no small part to the sizeable fiscal stimulus recently announced by the chancellor, the same cannot be said for UK stocks.

Following recent company results, UBS sees a slower earnings recovery than previously, forecasting a decline of -3% for the current year, instead of the previous 0%, and only a modest +5% in 2025 (previously 7%). 

“This soft outlook for earnings is in part due to softer commodity prices, disappointing sales to China, and risks to global growth from the threat of higher trade tariffs under the new US administration,” UBS said.

The bank also questions how “cheap” the valuation of the UK market really is. 

“In our view, headline UK equity valuations are not as attractive as they first appear, as much of the “value” is found in the financials (8.6x forward P/E) and energy (7.7x forward P/E) sectors. Earnings growth could be at risk for both sectors from falling interest rates in the case of the former, and a continuation of weak oil and gas prices for the latter.”

 

Source: Investing.com