Professional investors may not necessarily agree on the best geographical area to buy equities these days but there is a pretty strong consensus on which one to avoid.
Europe, the US, Japan, emerging markets – all have their strong supporters. Standing alone in the corner, however, is the UK – or ‘Brexit Britain’ as the media is now inclined to characterise it when discussing why global investors are shifting their money elsewhere.
Take, for example, a recent article in the Telegraph headlined Global investors desert Brexit Britain. To back up its thesis that “no one wants British shares at the moment”, it highlights the influential survey of professional investors by Bank of America Merrill Lynch, which found last month that “most were pessimistic about Britain’s fortunes” and the UK was now the “consensus short” among fund managers.
Then there is this Financial Times piece, which proclaims:
The UK can today lay claim to being the most unpopular developed country among international institutional investors, with continuing uncertainty about the consequences of Brexit and a struggling economy turning them off public and private assets.
Its headline – ‘Value investors brave Brexit noise in bargain hunt’ – hints at where our own piece today is heading.
For, here on The Value Perspective, there are few things likelier to whet our appetite than broad agreement in the market. After all, at heart, value investors are instinctively (and necessarily) contrarians – so is there in fact a case for investors ‘buying British’?
To be fair, this was also the thrust of the Telegraph piece – “it’s your moment to buy cheap stocks”, it enthused – though we would argue the matter is not quite so clear-cut.
Markets are hard to predict
First, though, if that ‘Brexit Britain’ tag is introducing an extra element of doubt in your mind, take a look at the Three important investment lessons we drew from 2016.
There we pointed out the propensity for experts not only to call elections and other political events wrong but then to compound their errors by wrongly predicting the market’s reaction to such events. Far better, we would argue, to focus on buying cheap stocks.
Which brings us back to the question of whether the UK market is cheap.
A good way to gauge this is to rank the major equity markets by their cyclically-adjusted price/earnings ratio or ‘CAPE’, which encapsulates the average earnings generated by a business, sector or market over the preceding 10 years, adjusted for inflation. As you can see from the following chart, the UK is certainly not as expensive as some markets.
Equity markets cyclically adjusted P/E (CAPE)
Source: Thomson Reuters Datasream, data as at 2 February 2017 and 2 February 2018.
That said, it is hardly cheap either.
To offer some context, the US’s present CAPE of around 30x compares with a long-term historical average of 17x while the respective ratios for the UK are 17.3x now versus a long-term 11.4x.
History suggests, from that level, UK equities will deliver investors a return of inflation plus 3% to 4% a year over the next decade, compared with a very long-term return of inflation plus 7% to 8%. Of course, though, past performance is not a guide to future performance.
So the UK market is neither expensive nor obviously cheap – and yet that overall CAPE number hides a very interesting divergence between two types of investment.
As we have discussed in articles such as Full tilt I and Full tilt II, the last few years have seen a huge shift in investor interest towards growth-oriented businesses – to the extent that value stocks are now as cheap as they have ever been relative to growth ones.
It goes without saying that, as dyed-in-the-wool value investors, we find that prospect very exciting.
In passing, it is worth noting that value-oriented global and European portfolios (which can obviously include UK equities) currently benefit from a much wider pool of cheap businesses to fish in but, either way – providing they stick to value stocks – there is no reason why investors should not look to ‘Buy British’.