As expected, the UK’s Monetary Policy Committee (MPC) used its latest Inflation Report to revise its growth outlook higher, its inflation forecast lower, and increase the pace at which it expects the unemployment rate to fall.
Such positive revisions have been almost unheard of since the financial crisis, which highlights the impressive recent improvement in the UK economy. has not changed our view on the overall UK equity market, however. It remains our least preferred in the developed world – although the more domestic areas of the market continue to offer opportunities.
Revenues of the quoted UK corporate sector are probably more global than any other significant market. Of the 10 largest constituents in the FTSE 100, none are classified as a “domestic” stocks, using the above criteria.
HSBC, BP and GSK highlight the global nature of the UK’s largest companies. One option, therefore, is to move down the size spectrum and look at the FTSE 250, which generally contains smaller, more domestic players.
Alternatively, investors could remain in the large-cap space and concentrate on the few UK-oriented areas of the market. Stocks geared to a recovery in consumption and housing appear most attractive currently, while a potential recovery in business investment could provide further opportunities.
So far, the upswing in growth has largely been driven by a modest improvement in consumer spending and a revival in housing investment. Kingfisher, the home improvement retailer, is a strong play on these two themes.
Increases in housing activity and consumer confidence bode well for home improvement demand and we see the potential for earnings upgrades if the housing recovery maintains its momentum.
Lloyds should also be a key beneficiary of the housing market recovery given its large UK retail banking exposure. Whitbread, the owner of Premier Inn hotels and the Costa coffee chain, is exposed to the UK consumer, but its Premier Inn brand is also heavily exposed to business travel. Business investment has so far been sluggish, but that is not overly surprising as it tends to lag consumer spending during recoveries. Increasing, confidence over an economic recovery and improving credit conditions can help to drive a recovery in investment and this offers investors a potential economic tailwind to the investment case.
It is important to highlight that a UK recovery is still in its early stages, and Bank of England governor Mark Carney was keen to stress as much this week.
Yesterday’s disappointing retail sales number was a reminder and, while real wages continue to fall, it will take more than a housing boost to drive a sustained economy.
In this regard, the efficiency initiatives being undertaken by Kingfisher and the structural drivers of Whitbread – under penetration of branded budget hotels and coffee shops – are also an attraction and can provide support to the shares if the recovery starts to stall.
Investors should not build their portfolio around UK recovery plays, but rather add them to a core of quality names. We continue to prefer the US and Europe ex UK equity markets, but there are opportunities to be found in the UK, particularly in the domestic areas of the market.
:: Andrew Miller, Barclays Wealth and Investment Management, Newcastle