Kingswood prepares for 'renewed rotation' to value stocks

Kingswood prepares for 'renewed rotation' to value stocks

Strong economic growth, rising bond yields and an “abnormally large” valuation gap between growth and value stocks are “all conducive to a renewed rotation later this year”, according to Kingswood’s latest investment outlook.

Rupert Thompson, chief investment officer, said UK equities would benefit in particular if value comes back in favour.

“The key attraction here is their cheapness, with their price to earnings ratio now as much as 30 per cent lower than the rest of the world.”

He added: “The UK has recently given back some of its outperformance since November as the rotation into value has gone into reverse. But it is well placed to benefit if, as we expect, value comes back into favour. 

“UK equities have as yet regained only a small part of the underperformance seen over the last few years.”

He outlined that within the firm’s UK exposure, he favours small and mid-cap companies. “They have outperformed substantially over the past year but their cyclical bias means they have some scope to outperform further on the back of the economic rebound. “ 

His views are in contrast to that of Nick Train, who wrote to investors last week to say that applying traditional valuation metrics to modern digital businesses was a “mistake” and outdated.

Train, who runs the £6.5bn Lindsell Train UK equity fund and the £2.1bn Finsbury Growth and Income trust, said valuation multiples at tech firms today cannot be compared with those at older analogue businesses. 

He wrote: “Investors, particularly US investors, understand the value that digital and data companies generate for their owners when they grow.

"Their capital-intensity is low, meaning returns on capital are high and copious cash generated. I say particularly US investors, because companies with similar characteristics have been right at the forefront of the bull market there and very high valuations have been achieved."

He said whether those high US valuations were justified was a moot point but added: "One thing is clear. Applying 20th century measures of what constitutes ‘value’ to digital companies is a mistake.

Bad news for fixed income

Thompson warned the outlook for fixed income was worse than equities.

He said: “Government bond yields have fallen significantly since mid May, unwinding much of their rise in Q1,” adding this decline has occurred despite rising inflation surprising markets.

He explained that technical factors combined with concerns over the delta coronavirus variant have driven the drop in yields, but said he expects government bond yields “to head higher again over coming months”.

Last month Kipp Cummins, a senior portfolio manager at institutional asset manager Dimensional said there is still an important place for fixed income investments in investors’ portfolios.

Cummins told FTAdviser that investors would be forgiven for asking why they should be holding fixed income assets in their portfolios in the current low interest-rate environment.

He explained there were two reasons the exposure was justified.

The first was that the level of yield is not the only story. “An expected return is made up of two main things: one is the yield and the other is the shape of the yield curve,” he said.