Time for the UK to bounce back?

We have been incredibly accurate on how the pandemic would play out in the stock market.  
In June last year, we wrote a piece stating that the only place to get a decent return from capital quickly, would be big tech. We alluded to it as a ‘safe haven’ for cash in lieu of gold, and gradually this played out as we expected.  

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This movement of capital meant the Nasdaq was first to recover its losses due to its tech composition, followed by the S&P and the Nikkei due, also, to their heavy tech weighting.
Europe is more industrial and old financial, with much less tech in its Indices. The Dax is the most heavily weighted in this area and this showed in its faster recovery compared to the old guard in the French CAC and FTSE here in the UK.

However, European stocks are neck and neck with their US rivals in the first six months of 2021, reflecting the widening rally across the global equities market.  

MSCI’s broad barometer of European shares has raced ahead by almost 15 per cent in euro terms since the end of last year, outpacing the 13 per cent gains for American equities, tracked in US dollars. A rise in the US dollar this year has eaten into the price returns for foreign investors in European stocks, however, leaving the MSCI Europe gauge up a slimmer 12 per cent on a dollar basis.  

Investors in European shares have benefited as, sectors considered to be sensitive to economic fluctuations such as banks and energy companies, have gained favour, as countries have lifted curbs on social activity. Since April, when economies on both sides of the Atlantic emerged from long periods of lockdown, enthusiasm for US tech stocks that had surged at the height of the pandemic has waned.  
Gains in Europe this year have been broad, with the consumer discretionary, energy, industrial, financial and basic material sectors all up more than 15 per cent, according to Bloomberg data. Only utilities, which are typically coveted for their consistent dividend payments, have declined as concerns over inflation have dented the appeal of those income streams.  

Many of the best performing sectors were so-called “old economy” industries that had been hit hard by the pandemic. Banks like Banco de Sabadell, Banco BPM and Société Générale, carmaker Porsche and glassmaker Saint-Gobain are all up more than 40 per cent in 2021.  

Despite the recent rally for European bourses, Wall Street equities have posted a much more vigorous rally since the pandemic nadir last year. MSCI’s US index has jumped 95 per cent from its closing low on March 23 2020, while the European equivalent is up 62 per cent from its trough reached that same month.

Only the FTSE has really been left behind, but part of this is due to the incredible rise of the pound, partly unrelated to the pandemic. In February last year, pound/dollar was trading around $1.28. This was expected to rise to about $1.35 if there was a Brexit deal, and fall to about $1.15 if there was no deal. Sadly, the Coronavirus hit first and the pound crashed to $1.15, the lowest level since 1985.

During the pandemic, we got through Brexit with a deal of sorts, but certainly with much less noise than most were expecting. This, and the vaccine, has pushed the value of the pound all the way back to its current level of $1.39.  

Why has this impaired the rise of the FTSE?  
This is because such a large proportion of profits for FTSE 100 companies is made in dollars. If it strengthens then dollar revenues, once converted back into sterling, are worth less.
This effect has become more pronounced given the sheer volume of profits earned overseas; in fact, 71% of revenues generated by FTSE 100 companies, come from outside the UK. The strength of sterling against the euro is also important given the large chunks of revenue accounted for by France, Germany, Italy and other eurozone countries.

Consider a simplified scenario of currency movement. If the exchange rate was $2 to the pound, then every $1,000 of revenue would be worth £500. However, if sterling weakened and the exchange rate moved to $1.5 to the pound, then every $1000 of revenue would be worth £667. The outcome is that revenues increased 33% as a result of the fall in sterling.

The notion that a falling currency boosts the local stock market applies to most markets, but the extent depends on the market's reliance on foreign revenues. The FTSE 100 is a particularly strong example of this, with the dramatic effects of Brexit and the movement of sterling, underlining the point in 2016.

The pound has been getting stronger and stronger since the height of the pandemic. 1.28 to 1.39 is a move of over 8%. This means that all the revenue made by FTSE 100 companies in the US, is now 8% less than it was in February 2020.  
The pound has now stabilised somewhat, so, are we now going to see a steady increase in the value of the FTSE? It is the only non-emerging index, other than the IBEX 35 in Spain, that hasn’t reached pre-pandemic levels. Not only has it lagged behind, but it is still 10% off its 2020 highs.

However, currency fluctuation can really only account for some of it, and arguably due to Brexit, the FTSE was already cheap before the pandemic struck.  
On top of this, most of the reasons for the price movement, are behind us. The pandemic is gradually dissipating, and we’ll learn to live with it; Brexit has been and gone, and gradually, we will prosper from it.

Over the next year or two, these aspects will move further into the rear-view mirror. The world believes in the UK as a stabilising economy, which is the major reason the pound has strengthened in the first place. It will soon realise, that the top 100 companies in the UK stock market, are also undervalued in comparison to their piers abroad.

This is really accentuated in the p/e ratios of the major economies stock markets. As a rough calculation, here are our results with currency already taken into account:

S&P (US): 37
Nikkei (Japan): 31
DAX (Germany): 27
CAC (France): 23
FTSE 100: 14

Brexit is behind us. The Coronavirus is on its way out. The UK has more tech start-ups than any country outside of the US. The dollar has been weak, but is showing signs of strengthening. With all this in mind, is it a good time to buy into the UK? At TPP we certainly think so.

You can now autotrade some of the best European and UK based strategies available to the market. We even have a FTSE tracker that follows the UK stock market Index at 3x the rate, meaning if the FTSE rallies 1%, your portfolio will move 3% in the same direction. For the long term, we believe this is a great play.  

The UK has had its problems over the last 5 years, but we’re now leaving most of them behind and moving forward. If you want to get involved in the prosperous years ahead but on a leveraged basis, look no further than our leveraged tracker.

Or, if you want a little more diversity, look at The European Stock Basket. This has become our most popular strategy and it’s easy to see why. With a return of 42.8% in the first 6 months of this year, and a max drawdown of only 13.5%, it is a strategy that plays on both the long and the short side of the market.

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