What the recent rebound shows us

We found it instructive to see the speed with which domestically focussed UK shares rebounded last month as the risk of a no-deal Brexit on 31 October receded.

The share price recoveries of certain publically quoted investment trusts invested in UK equities was particularly pronounced.

Domestically focussed UK shares have significantly lagged UK overseas earners since 2016 (for background, see Why as an investor I’m looking through Brexit fears). And the recent “Brexit bounce” has only really scratched the surface of redressing this.

Negativity towards the UK equity market is entrenched, and the positioning of investors remains extreme. Global fund managers have been “underweight” the UK for three years, according to the Bank of America Merrill Lynch. That means they have been holding a lower amount of UK equities than they would normally.

UK domestically focussed shares have suffered more than others and in the event that sentiment were to turn for the better, they could recover at speed, which is why we’ve been building meaningful positions while prices are low. Markets have previously recovered from periods of uncertainty and I see no reason why this won’t occur again.

It’s always worth bearing in mind though that the UK equity market is global in nature. International developments often set the tone, and in this regard the ongoing US-China trade discussions and the state of the world economy are important considerations.

Step back and survey

It is a challenge to step back and take a dispassionate measure of markets. In this regard the enduring M&A interest in UK-quoted companies is important.

We are always very interested in how the corporate and PE sectors behave since we share their long-term mentality. Like them, we are focussed on ascertaining the value of companies based on fundamentals, such as earnings or sales and the sustainability of business models.

Our job is to use all this information to find shares that the market has mispriced. The rewards of such an approach should be higher today as the time horizon of the average equity investor has shortened. This is partly due to the rise of short-term and “passive” strategies which replicate the performance of a specific benchmark or standard, such as an index or a market average.

As a result, investors seem more susceptible to herd behaviour, a tendency which can result in extremes, and certain areas of the UK equity market look extremely unloved to me at the present time.

Many of the companies being targeted in this wave of M&A are high quality businesses whose prospective new owners likely see an opportunity to foster growth. Technology platforms such as Just Eat and BCA Marketplace (owner of the WeBuyAnyCar.com portal, whose acquisition by a PE buyer completed this month) look to be doing the disrupting and are in expansion mode.

Meanwhile, speciality pharmaceutical company BTG, whose acquisition by Boston Scientific recently closed, had independent designs to become a world-leader in interventional medicine.

We continue to find quality companies to invest in at reasonable prices and take a highly selective approach when choosing between investment opportunities. We are focussed on companies with sustainable and robust business models, with a strong emphasis on balance sheets and accounting. A weak balance sheet can hamper the ability of a company to invest in its operations or respond to changing market conditions.

In the event UK shares were to come under renewed pressure, as long-term investors we will remain squarely focussed on any resulting new opportunities.

Important Information:

Reliance should not be placed on any views or information in the material when taking individual investment and/or strategic decisions. This is not a recommendation to buy or sell any financial instrument/stock or to adopt any investment strategy.

Investments concentrated in a limited number of geographical regions can be subjected to large changes in value which may adversely impact the performance of an investment

Equity [company] prices fluctuate daily, based on many factors including general, economic, industry or company news.

Please be aware the value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested. Past performance is not a guide to future performance and may not be repeated.

[1] Both fiscal and monetary policy attempt to reduce economic fluctuations. Monetary policy regulates the supply of money in an economy using interest rates and other methods, and is controlled by a central bank. Governments set fiscal policy by adjusting spending and taxes.

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