Jupiter Asset Management’s Adrian Gosden and Chris Morrison explain why they see a supportive backdrop continuing for equity income investors in the UK.
We think the new year will look familiar to UK equity income investors. Many of the market catalysts that resonated in 2024 remain in place, with companies undervalued versus history and versus other markets.
We would expect to see dividend growth from the companies we invest in, and this should allow our strategy to do what it aims to — provide income and achieve capital appreciation.
We see the supportive backdrop for UK equities continuing. For example, we think the pace of corporate activity in the form of mergers and acquisitions can maintain a healthy pace. This reflects the low valuations of good companies as well as well as a stable economy and government. We would expect that overseas companies, trade buyers and private equity firms will want to do more deals to acquire UK assets at attractive premiums.
Buyback trends
The pace of share buybacks in our market also is likely to remain robust. We expect 2024 to be the third consecutive year with buybacks in total of around £50 billion, well above the historic run rate. Premier Inn owner Whitbread (£100 million buyback) and HSBC ($3 billion program) are among the those recently announced.
Companies will acquire their own shares if they deem them to be undervalued, and reducing the number of shares in circulation boosts earnings on a per-share basis. We view a buyback program as positive also because it indicates the company’s dividend is well supported and can potentially be progressive. The range of businesses buying back shares has varied across sectors and included larger and smaller companies, and they have been well-received by the market.
Rates fall
Another supportive catalyst that we see continuing is the favourable interest rate environment. The Bank of England (BoE) cut rates for a second time this year, in November, to 4.75% from 5.0%. The European Central Bank has cut rates three times this year and the US Federal Reserve has cut twice.
The BoE signalled that rates would continue to move lower – gradually, and it raised its 2025 economic growth forecast slightly, to 1.5% from its August estimate of 1% (1). As stock pickers, we leave the economic forecasts to others, but slow and steady growth suits us. We think the UK consumer is in a fairly good place, with healthy levels of savings and rising wages.
Following the uneventful UK election, the government’s first budget generated some concern in the bond market around the amount of gilt issuance needed to support spending plans. Higher gilt yields are unhelpful to income investors – and to the government, which must pay more to borrow. Still, we welcome the government’s focus on economic growth and expect they will improve the messaging going forward.
We note also that sterling has remained relatively stable, which we believe reflects international investor confidence about putting money to work in UK.
Higher taxes
The companies we speak to are expecting flat growth in earnings in 2025, and some have scaled back forecasts. They will be paying higher taxes including national insurance as a result of the budget. Overall, we think company expectations are in a good place, however, neither overly optimistic nor overly pessimistic.
In our strategy, we may consider deploying some gains that banking stocks have generated over the last year into sectors such as life insurance, energy, industrials and construction, where valuations are more modest.
More clarity
Over the last year we’ve gotten clarity on several key issues and events — the UK election, the new government’s taxing and spending priorities, the US election and the pivot in central bank policy from raising rates to cutting. To be sure, geopolitical issues including the wars in the Middle East and Ukraine remain as unpredictable as ever and could have market implications.
Nevertheless, we continue to believe that a UK equity income strategy has an important role to play in a diversified investment portfolio. We aim for our strategy to deliver an income in excess of the market’s and that grows above inflation. In addition, there is the prospect of meaningful capital returns as the companies we invest in prosper, and we feel confident that UK stocks offer an excellent entry point for investors.
