UK funds saw a reversal in sentiment in October, as contrarian investors took advantage of cheap valuations to re-stock their UK equity holdings.
The Investment Association (IA) UK All Companies sector was the best-selling area in October, with net inflows of £363 million, the first positive month of flows since November 2017, according to Morningstar Direct data.
While other UK stocks sectors continued to see negative flows in October – including the UK Equity Income sector (-£77 million) and UK Smaller Companies (-£14 million) – those figures are starting to slow.
Within the UK All Companies sector, trackers dominated with the Morningstar Silver Rated Vanguard FTSE UK All Share Index and iShares UK Equity Index funds seeing inflows of £154 million and £136 million respectively. But they were flanked by active strategies, with NFU Mutual UK Growth the best selling at £216 million and Bronze Rated Liontrust Special Situations coming in fourth at £100 million.
At the other end, investors continued to flee the Bronze Rated LF Woodford Equity Income fund, as outflows in the past 18 months now add up to over £3.5 billion.
Confidence Returns To UK Market
Still, it looks like UK equities are becoming more compelling for home-based retail investors, if not for overseas money managers. This is supported by Hargreaves Lansdown’s latest investor confidence index, which rose for the first time in five months.
Confidence in the UK market improved 16 points from October to 69 in November. Apart from European shares, up 3 points to 65, all other regions saw confidence drop.
“The fall in the UK stock market in October has prompted investors to be more upbeat around its prospects this month, reflecting the perception there is a bit more value on offer,” says Laith Khalaf, senior analyst at Hargreaves Lansdown.
Despite this, he acknowledges, sentiment is still depressed by historical standards, with the index still some way below its 10-year average of 91. “The recent bout of political mayhem will have done nothing to quell concerns over Brexit, which still dominate,” he adds.
While sentiment now seems to be turning, however slowly, Tom Stevenson, investment director for personal investing at Fidelity International, cautions against investors putting all their eggs into the UK basket.
“It is prudent to maintain a diverse portfolio to cushion yourself against volatility,” he says. “This means investing across different geographies as well as asset classes.”
However, he adds: “If you have done this, there is little reason to shy away from UK equities. When a market is as unpopular as the UK finds itself today, it stacks the odds heavily in favour of a good long-term return because shares are cheap.
“While you may experience painful volatility in the short run, I would be surprised if investing in the UK today does not look prescient in five or 10 years’ time.”
Exciting Environment For Contrarian Investors
UK equity fund managers have long turned positive on the long-term prospects for their asset class, generally against the tide when sentiment was tanking. Indeed, clarification over the UK’s future relationship with the EU – whether the deal is perceived as ‘good’ or ‘bad’ – should help if it comes in March.
“It may be a cliché, but investors really do hate uncertainty, and, for global asset allocators, there has been little incentive to do the work on cheap UK shares,” notes Alex Wright, manager of the Silver Rated Fidelity Special Situations fund and Fidelity Special Values (FSV).
“I have heard from brokers of their US clients refusing to buy global oil companies simply because they are UK-listed. Closer to home, I can’t remember the last time I met a UK based client who was increasing their UK exposure.”
For contrarian investors like Wright, this is “an exciting environment”. Clearly, one must be selective when picking stocks, particularly domestic businesses, some of which “are being unfairly ignored; others are structurally compromised or financially unsound and therefore best avoided”.
Wright adds: “My process rests on identifying unloved companies with the potential for positive change. And the number of unloved companies available to choose from now makes me think 2019 could turn into a surprisingly positive year for investors brave enough to buy UK equities before the good news.”
