UK stock market – Scope for further upside in UK large-cap stocks

The reasons why UK stocks have been out of favour with global investors for a very long time, particularly since the June 2016 Brexit vote, are well documented, and the lack of interest in UK companies has resulted in very attractive absolute and relative UK valuations. To provide some context, in 1997, UK pension funds and insurance companies owned more than 45% of the UK market. However, by the end of 2023 their ownership had fallen to 4.2%, which is a record low. With the largest 100 UK companies index recently hitting a new high, in this brief note we discuss why this is happening and whether the improvement in investor sentiment towards large-cap UK stocks can continue.

Recently released data points show that the UK economy is improving and, based on IMF projections looking out to 2025, the UK has the highest growth outlook of the G7 nations outside of North America. UK inflation is proving to be less sticky than in the US, as UK core inflation continues to decline, which means that the Bank of England could lower interest rates before the Federal Reserve is able to do so. A reduction in UK interest rates is likely to put pressure on sterling and boost the translated value of the earnings of UK multinational companies; around two-thirds of the largest 100 UK companies’ earnings are generated overseas.

Regarding overseas appetite for UK stocks, according to Gervais Williams (head of equities at Premier Miton Investors), the UK large-cap index hitting new highs could encourage further interest due to a ‘fear of missing out’. This behaviour was apparent in Japan in 2023 when the Nikkei 225 Index rallied by c 30%, reaching levels not seen for around 25 years.

If there is further appreciation in large-cap UK stock prices, Williams suggests that local sellers could be overwhelmed by demand from UK corporates, which are increasingly returning cash to their shareholders, including via share repurchases. This is likely to fuel further demand for UK large-cap stocks.
Although there is an upcoming UK general election, UK political risk has diminished as there is less divergence between the policies of the two main parties. Both party leaders are very mindful of the negative market reactions to former Prime Minister Liz Truss’s plans for unfunded tax cuts.