How to Find Value in the UK Stock Market

FTSE 100 stocks moved sideways gaining very little in 2014 - and many forecasters predict this year it will be much of the same. So where can you find value opportunities?

Emma Wall 21 January, 2015 | 10:08AM
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Emma Wall: Hello and welcome to the Morningstar series, 'Why Should I Invest With You?' I'm Emma Wall and here with me today is Nick Kirrage, Manager of the Silver-rated Schroder Recovery Fund.

Hello Nick.

Nick Kirrage: Hi Emma.

Wall: So in 2014, just to recap, U.K. equities moved sideways and a lot of forecasters are saying we should expect the same again from 2015. What does this mean for a value investor, if anything?

Kirrage: It's difficult this time of the year for forecasters because clearly everyone want to view over the next 12 months, but nobody wants to diverge too much and stick their neck out too far. So, you see commentators coming back to a kind of classic 8% to 10% type return over the next 12 months, which of course is the 100-year average, so you're not too far away from the safe bet. But we will know that things can diverge absolutely massively from that kind of return over the short term.

It's quite difficult for us running a value style because the valuations in the U.K. market are not compelling one way or another. They are not hugely expensive in the context of history, neither are they very, very cheap. So, it doesn't give you a great deal of kind of guide over the next 12 months as to which way the market might go and of course, we know there are some very, very big factors moving in opposite directions in the world. So, it is hard to say. I think we put our faith, continue to put our faith in diversification and in low valuations and over time that kind of leads us to construct a vaguely sensible portfolio that should make reasonable returns over three to five years. But in the short term it is a more opaque view than we've seen in some while.

Wall: The volatility that you touched on the big events coming up that will create volatility. Markets don't like uncertainty. The election, the general election, is a big uncertainty. There could even be two. Will you be looking around that time for opportunities to buy?

Kirrage: I think actually we'll probably even be looking ahead of that time. I mean, one of the things that's always very interesting about these big events is that issue of travelling and arriving. It's the uncertainty of getting to the event. And even if the event turns out to lead to a perceived negative outcome, actually people kind of cut their cloth based on that assumption. So, once they know they can kind of organize their businesses.

When we saw the Scottish referendum was a classic example where it was the uncertainty that created the volatility and the opportunity and then of course, once we knew the outcome even though the outcome has led to some quite big changes in devaluation and so on and so forth, actually it's become a non-story subsequently and businesses have used that and organized themselves along those lines.

Wall: You mentioned that U.K. stocks were neither massively undervalued or massively overvalued. Are there differentiations when you look at sector?

Kirrage: Absolutely there are. I mean, I suppose this is what we do, isn't it? We look at average valuations, but then we say but where are the opportunities? And we can think about sectors that are cheaper. This isn't a magic trick. It's always the sectors that are out of favor that are cheapest. So, financials remain under pressure, they remain reasonably unloved. We think there are some quite big changes from the businesses that people thought they knew six or seven years ago. There has been a lot of change gone on there and yet valuations still remain quite low in areas like banking.

And then other areas that are very, very in the newspapers today like supermarkets where obviously there are some big changes going on, but there are some fundamentally quite good businesses underlying that with big footfall and great brands and very, very low prices. And we do think that if you're able to look through on a three- to five-year view, some of these things in the context of a market that isn't extraordinarily cheap, some of these stocks themselves are quite cheap.

Wall: Nick, thank you very much.

Kirrage: Thanks.

Wall: This is Emma Wall for Morningstar. Thank you for watching.

 

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Emma Wall  is former Senior International Editor for Morningstar