Article

UK equities recovering from underperformance

For those heavily invested in UK equities in recent years, it has been a frustrating time.

| 3 min read

Over the last five years, the return on the FTSE 350 has been 38%, respectable when compared to the long-term average. However, the return on global equities over the same period has been a much more impressive 98%, with 10% of this attributable to Sterling’s post-EU referendum decline.

What should investors make of this? Whilst Brexit may have influenced the attitude of some investors to the UK equity market, much of its underperformance can be explained by the heavy weights, the FTSE 350 has in energy, and banks, with both sectors returning just 6% over the last five years. This reflects the move towards decarbonisation and the low-interest-rate environment, respectively.

However, it’s not just what is listed in the FTSE that has been an issue. Another drag on the performance of the UK market is the under-representation of technology, which accounts for just 2% of the FTSE 350 compared to 21% for the MSCI AC World index.

The rapid digitalisation of our daily lives, which has delivered strong earnings growth within the tech sector, resulted in outsized gains in recent years, rewarding those investors with a more international equity allocation.

Following a rapid deployment of vaccines in many areas of the developed world leading to a progressive reopening of much of the global economy, we have seen many of the beaten-down sectors perform strongly – retail, travel, leisure and hospitality to name but a few. This broad-based rally in cyclical stocks has extended to big oil and bank. Oil benefited from the surge in pent-up demand in the economy and banks from recent increases in bond yields, coupled with expectations of rising net-interest margins as the economy recovers strongly.

As a result of this economic backdrop, UK equities have had a good run, with year-to-date returns in Sterling exceeding those of the global equity market by nearly 5%. Much of this is to do with a recovery in the pound, which has been responding positively to the strength of the bounce-back in economic activity and the successful rollout of Covid-19 vaccines.

We feel this has further to run. There is now much more interest in the UK equity market as a relatively cheap way of accessing exposure to cyclical equities, which may continue to benefit from the progressive reopening of the global economy.

One final point which is worth highlighting is that, although UK equities have seen a marked reduction in dividend payments since the crisis began, as companies seek to preserve cash to strengthen their balance sheets, the prospective dividend yield on the FTSE 350 is expected to recover to a respectable 3.5% as trading returns to normal.

Whilst this dividend yield is somewhat below the level it was in early 2020, it is some way above most other developed equity markets – and a very generous margin over the yield on long-term UK government bonds.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

UK equities recovering from underperformance

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