As part of today’s special feature “Where Next for UK Equities?” investment and market experts are sharing their views on valuations, opportunities and what could drive the next phase for UK stocks. Russ Mould, Investment Director at AJ Bell, is known for his clear insights and deep market knowledge. In this overview, he shares his take on the current UK market, highlighting both the factors supporting valuations and the key risks ahead.
Russ says: “The case for UK equities is less compelling than it was, purely because the indices are higher than they were, so valuations offer less upside and less downside protection. However, unlike the USA, the UK does not look wildly expensive relative to its own history.
“That is one argument in favour of using the UK as a diversifier as part of the equity portion of a broader portfolio.
“Another is how it has relatively little technology exposure. That has done it no good at all for the last decade and has favoured the USA. But tech and growth stocks have soared during an era of low growth, low inflation and low interest rates. If the environment changes, then perhaps other sectors will come into their own. A new era, of say higher inflation, higher nominal growth and more volatile interest rates might favour cyclicals (which could also fall into the ‘value’ bucket, given how they are still lagging tech and growth) and the UK has plenty of those.
“Higher nominal growth could mean investors may feel less obliged to pay lofty earnings multiples for secular growth (such as that offered by technology), if there is more cyclical growth to be had for lower prices. Higher, or more volatile, interest rates should also mean higher discount rates in discounted cash flow models (DCFs), and higher discount rates mean lower net present values (NPVs) for future cash flows and thus in turn lower theoretical equity valuations. This may matter a lot for growth or tech firms whose earnings and cash flow profile are heavily weighted toward a good few years into the future.
“Higher inflation, or a Trump administration that succeeds in getting the US economy to run hot, or unorthodox policy to try and make Western government debts manageable (such as cutting interest rates and taking a chance with inflation, or yield curve control, or money printing/QE or capital controls) could also tempt investors to look toward real assets, rather than paper promises such as cash and sovereign bonds.
“Gold and silver are already soaring and the CRB Commodities index is nearing a multi-year high. The UK markets offer a lot of mining (and oil) exposure. This has been a stick with which to beat them for a long time, but commodity exposure could conceivably be a virtue if the global economic backdrop really is changing and we are leaving behind the low growth, low interest rate, low inflation mush of the 2010s behind.
“Financials, oils and miners are expected to generate 53% of total FTSE 100 earnings in 2025 and to contribute 47% of total ordinary dividend payments. This perhaps reaffirms the UK’s status as a play on cyclical growth, and on a global scale, rather than a domestic one.
“A final argument in favour of UK equities, for now, is the cash yield on offer. Again, rising indices and prices mean the figures are not as compelling as they were, but they still suggest there may be some value to be had.
“Analysts’ consensus forecasts suggest the FTSE 100’s members will pay out some £79.5 billion in dividends this year, with the FTSE 250 in some £10 billion more. Add in more than £51 billion in already-declared share buybacks and some £25 billion in takeover proceeds and the FTSE 350 looks poised to return some £165-170 billion in cash to investors this year.
“That equates to nearly 6.5% of the FTSE 350’s stock market capitalisation, a figure that comfortably beats inflation, the Bank of England base rate and the UK 10-year gilt yield. In this respect, it is possible to make a value case for UK equities, although any unexpected economic slowdown could well see companies put buyback programmes on hold.
“Risks do still abound, given the UK’s fragile sovereign finances, government bond yields that are lofty relative to those of G7 and EU peers as a result, and the cyclical nature of the FTSE 100’s earnings. But the valuation on an earnings basis and especially a cash return basis may offer some downside protection.
“The cash inflows from dividends, buybacks and M&A could also help to confound the old saying that, ‘bull markets end when the money runs out.’ The dearth of IPOs and secondary offerings may be a source of frustration to some, but investors are receiving more in cash than they are being asked to hand over.”
