With the Brexit trade deal finally closed and the launch of the COVID-19 vaccine continuing at a rapid pace, the UK’s stockpiles of value could be “the trade of the decade”.
That is the view of Research Affiliates founder Rob Arnott, who said that the end of the COVID-19 threat was now in sight in the UK, potentially creating a “wind in favor” for its economy and stock market.
A combination of factors, including the uncertainty surrounding Brexit and the devastating impact of the pandemic, pushed UK stock prices to “implausibly cheap levels” in late 2020, Arnott said, and remain “remarkably low”.
The country has emerged as one of the first leaders in the implementation of vaccination, with 17.9 million people – about a third of the population – already receiving at least one dose. The government hopes to vaccinate all adults by the end of July. He also defined his roadmap to avoid blocking, with the aim of removing all restrictions by June 21
The post-Brexit trade agreement, signed in December, also eliminated many concerns, although some areas, such as financial services, remain unsolved.
“Around the world, the value is being negotiated with great discounts in relation to growth. No matter how we measure the valuation, the value discounts for growth are greater than 95% of the history of the respective country or region – except in Australia, ”said analysts led by Arnott.
“The favorable winds of Brexit and rapid COVID vaccination make the UK’s low rating especially attractive,” they added.
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In January 2016, Research Affiliates named emerging market (EM) value stocks as the decade’s trade. Analysts said they still like EM stock, but that the UK stock market, and stock in particular, is now even cheaper.
Source: Research affiliates using data from CRSP / Compustat and Worldscope / Datastream
“UK stocks stand out for offering one of the most attractive risk-return trade-offs, with prices to return a notch higher than emerging market stocks with significantly less volatility,” said Arnott. “Both UK and EM value stocks could be the business of the decade,” he added.
The UK has one of the highest COVID-19 mortality rates – 121,305, according to government data – behind only the USA, Brazil, Mexico and India. The economic impact that the pandemic had on the United Kingdom was also severe, with most of the country currently in its third blockade.
Gross domestic product shrank 9.9% last year, the worst annual drop since the ‘Great Frost of 1709’. Along with the pandemic, negotiations on a post-Brexit trade deal went down the drain, with an agreement finally reached on Christmas Eve. More broadly, Brexit has had an impact on UK assessments since the country voted to leave the EU in June 2016, Research Affiliates noted.
The UK corporate profit fell 88% in 2020, much more pronounced than the 17% drop in the US and 50% in Europe. When it comes to performance in the stock market, UK value stocks fell 15% last year, while growth stocks rose 4%, Research Affiliates said, citing data from Russell.
The result of all of this is that UK stocks are currently trading in the cheapest quintile of their historical standards – based on the average cash flow indexes for book price and price for five years.
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In contrast, Arnott said that the US stock market has only been more expensive than his current valuation, based on the price / book value ratio, a sixth of the time in the past 60 years, and only 8% of the time based on average cash flow index price for five years.
Cheap valuations can mean buying opportunities or a value trap that UK companies continue to fall into, Arnott noted, before concluding that, in this case, it was the first.
“Neither Brexit nor the COVID-19 pandemic is likely to have as much impact in 2026 as in 2020-21. Therefore, the market shocks induced by these events represent opportunities now, ”he said.