Will the gathering UK recovery translate into returns?

This article is part of
UK Equity Investing - May 2014

On this basis, Standard Life Investments has a ‘heavy’ asset allocation to UK equities, citing an improvement in both the domestic economy and overseas order books which it believes are feeding through into stronger earnings growth for a wider range of companies, while valuations appear relatively attractive.

Valuation concerns

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A bellweather of the UK is typically mid-cap stocks, which have traditionally have outperformed large caps.

The past 12 months has been no exception, with mid-caps up 12.9 per cent and the FTSE 100 up by just 4 per cent, according to Gervais Williams, managing director of the Miton Group and an equity portfolio manager since 1985.

However, he observes a recent shift which has seen mid-cap stocks begin to underperform. He refers to the period between March 7 2014 and May 9 2014, when the mid-cap index fell 3.9 per cent in absolute terms while the FTSE 100 was up 1.64 per cent.

Some of the recent bid activity in the FTSE 100 explains its uptick in performance, but Mr Williams says fund managers are unsure whether the performance of mid-caps is a short term trend, or something that will play out over the longer term.

So while he believes there are plenty of opportunities in UK equities as a result of some “exciting IPO activity”, he also sounds a note of caution and highlights the link between valuations and earnings as the key barometer in the coming months.

Mr Peters says he is “thrilled” with the range of opportunities and says a lot of companies around are “dead cheap”, but he also argues that the UK market is finely balanced in general pricing terms as a steady rise in valuations over the last couple of years has not been matched by earnings growth. This will need to change if valuations are not to begin to appear unattractive, he warns.

Andrew Bell, chief executive of Witan Investment Trust, also cautions that equity markets are not as cheap as they were five years ago.

He adds: “I think the process of economic convalescence is underway and the process of re-building the banking sector and rebuilding confidence on the consumer and business side is underway.

“I think there will be a following wind for equity investors but because growth is likely to remain relatively low compared to past recoveries and unevenly distributed, it’s not going to benefit all companies.”

Our top three UK equity fund picks

MFM Slater Growth fund

Mark Slater’s MFM Slater Growth fund remains a modest £98.6m in size in spite of its outperformance.

Its aim is to achieve long-term capital growth through investing in UK companies. The fund comes top for performance over the last five years in the IMA UK All Companies sector, with a return of 266.93 per cent to 11 May 2014, against a sector average of 95.52 per cent over the same period.