Three reasons to own UK blue-chip shares
4th October 2022 14:23
by Graeme Evans from interactive investor
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Q3 was one to forget, but there are a few positive signs emerging. While markets remain volatile, there have already been winners at the start of Q4.
Global stock markets are on their worst run since the financial crisis after a third consecutive quarter of losses left leading indices as much as a quarter lower for the year to date.
The selling accelerated in September after Federal Reserve chair Jerome Powell crushed summer optimism that the pace of rises for US interest rates may be near its peak.
His vow to maintain a restrictive policy for some time was borne out in a third consecutive hike in US rates of 0.75%, while a worse-than-expected inflation print for August left Wall Street fearing a Fed Funds rate as high as 4.6% by the end of next year.
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The increased chances of a US recession triggered a worldwide flight from risk assets, with the S&P 500 down by more than 12% over the second half of September and the FTSE 100 index also falling 5% during the month to below the 7,000 threshold.
In spite of a strong start to the period, the S&P 500 lost just under 5% across the third quarter as the leading US benchmark joined other leading global indices in giving up ground over three consecutive periods for the first time since 2009.
Just one non-currency asset out of the 38 followed by Deutsche Bank managed to post a positive return amid a broad-based sell-off spanning equities, credit and sovereign bonds. The Brazilian stock market rose 11.7% in Q3.
The bank added: “What alarmed markets most over the quarter was how central banks became more explicit about how they would be willing to keep policy in restrictive territory, even if growth was to slow.”
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In addition to the global volatility, the UK government’s mini-budget of tax cuts left the pound at an all-time intraday low against the US dollar of $1.035. The currency’s losses over the quarter as a whole came to 8.3%, the worst performance since the end of 2008.
A weaker pound offered some protection for international earners in the FTSE 100 index, meaning the top flight has outperformed at 5.6% lower for the year to date compared with a decline of more than 25% for the UK-focused FTSE 250 index.
Bright start to Q4
Both UK benchmarks were significantly higher today after the S&P 500 rallied by 2.6% on Monday, with weaker-than-expected manufacturing activity figures raising hopes that the Federal Reserve’s aggressive rate hikes are taking effect.
US Treasury yields weakened and Wall Street’s pricing of the Federal Funds rate reduced to 4.45%, boosting risk appetite on both sides of the Atlantic. The decision of Australia’s central bank to only raise interest rates by 0.25% added to optimism of a long-awaited rates pivot.
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Beneficiaries in the FTSE 100 index included JD Sports Fashion (LSE:JD.) and BT Group (LSE:BT.A) with gains of more than 7% across the first two sessions of October. In the FTSE 250 index, Watches of Switzerland (LSE:WOSG) and magazine publisher Future (LSE:FUTR) have risen sharply.
Further progress is likely to depend on the content of this Friday’s monthly jobs report in the US and the start of the third-quarter earnings season on Wall Street.
UBS Global Wealth Management said: “While risk assets rebounded on Monday, we think a more sustained rally in equities is likely to require indications of a clear downtrend in US inflation, along with signs of a cooling labour market.”
It expects market swings to remain pronounced and said this is not an environment to be positioned too heavily for any given short-term scenario.
Three reasons to own UK shares
The bank continues to regard the defensive and value-driven UK market as among its most preferred, despite the current economic turbulence. And there are three good reasons why.
First, it points out that the FTSE 100 is trading on a forward price/earnings multiple of 8.9 times, which is a 29% discount to its 20-year average, and second, it offers a 4.6% prospective dividend yield.
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And then there’s the currency crisis. It is significant that only about a quarter of FTSE 100 revenues are generated in the UK, with the global economy mattering much more than the domestic backdrop to its top five constituents of Shell (LSE:SHEL), AstraZeneca (LSE:AZN), HSBC Holdings (LSE:HSBA), Unilever (LSE:ULVR) and Diageo (LSE:DGE).
UBS strategist Matthew Gilman expects the weaker currency to provide a material boost to corporate earnings as overseas profits are converted back into sterling, and improve the competitiveness of exporters, supporting equities.
He added: “This, along with higher oil prices, are the key reasons why the FTSE 100 is expected to see one of the fastest earnings growth rates of any major global market this year.
“We expect 20% earnings growth in 2022, which is around double the current consensus forecast for global equities.”
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