The road to recovery: opportunities across UK assets
Lilian Chovin, Head of Asset Allocation at Coutts, looks at the specificity of the UK’s post pandemic economic recovery and how we’ve exploited those distinct characteristics.
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Despite some moderation in recent weeks, the UK economy showed the strongest GDP growth among G7 countries for Q2 2021 (and UK exports of goods to the EU rose above pre-Brexit levels). As hopes the successful vaccination rollout will mean that lockdowns are no longer needed, the outlook for UK assets is better than it has been for some time. However, it should be noted that beneath the surface things are more nuanced - we expect the current divergence in performance across sectors and themes to continue.
The last 18 months have fundamentally changed the world we live in, with both global economies and markets experiencing a rollercoaster ride caused by a worldwide pandemic and the followed by lockdowns and accompanying unprecedented fiscal and monetary measures deployed to prevent a global depression. While these measures have so far been largely successful, many corporates have faced massive changes to their business and competitive environment with, in some instances, long term trends accelerating dramatically.
The UK experience is a telling one as it illustrates how some of these changes have played out…
Rising property prices and the importance of the wealth effect
One of the distinctive features of this post-pandemic economic recovery has been the sharp rise in global property prices, something which, at first, seems counter intuitive but makes sense when we consider the speed and nature of the measures deployed by governments and central banks to keep the cost of borrowing as low as possible and protect the income of millions of employees (through furlough schemes). The Organisation for Economic Co-operation and Development (OECD) recently published a report (August 2021) showing that only 3 out of 40 countries experienced declines in house prices (in real terms) in the first 3 months of the year, the smallest proportion since the data series began in 2000. Savings accumulated during lockdowns, historically low interest rates, and a desire for more space explain the current trend. This has been particularly true in the UK where targeted tax cuts helped house prices rise 10% year on year in May 2021.
In turn, this is likely to have contributed to the much better than expected economic performance of the British economy since the beginning of the year. Indeed, traditionally, the UK stands to benefit more from rising house prices than other countries given its economic model based on the strong relationship between credit availability, rising housing prices and consumption, which is underpinned by the larger proportion of owners with a mortgage (Source: OECD Affordable Housing Database). This makes the wealth effect from rising house prices important in driving UK consumer confidence and demand, with retail sales reaching record highs - currently 10% above their pre-Covid-19 peak.
Source: HM Land Registry, Registers of Scotland, Land and Property Services Northern Ireland, and Office for National Statistics – UK House Price Index, Bloomberg, June 2021
Portfolios poised for the recovery:
an active approach
Market wise, while stay-at-home companies fared better in the initial phase of the pandemic (February 2020-October 2020). Cyclical companies -those sensitive to a reopening of the economy- performed much better from November last year when vaccines were first shown to be effective against Covid-19. Among these, home builders, financials, and other companies specifically exposed to the domestic property market outperformed the broader market.
To capture opportunities arising from a very volatile economic and market backdrop, we did two things in our clients’ portfolios. Firstly, we consistently and meaningfully increased our allocation to active managers from 53% in December 2019 to 63% today (58% in April 2020 and 61% in October 2020).
Then, when our conviction was high that a recovery was in sight and cyclical companies would benefit, we rotated 25% of our UK equity portfolio back towards economically sensitive parts of the market. This saw our portfolios’ sensitivity to a UK economic recovery increase significantly. Our Coutts Actively Managed UK Equity Fund has outperformed UK equities by approximately 4% since the end of November 2020, while our allocation into the most recovery-sensitive fund has outperformed UK Equities by 7%.
Source: Bloomberg 31 August 2021
Return data for funds are calculated net of fees. Past performance should not be taken as a guide to future performance. The value of investments, and the income you get from them, can go down as well as up, and you may not recover the amount of your original investment.
Moderation in everything:
navigating the next phase
Going forward, economic growth should moderate, as should the increase in house prices. Difficulties caused by the Covid pandemic will continue to impact both demand and supply for goods and services. Navigating the next phase, where support is needed less but some issues remain, will prove challenging and is already causing tough negotiations within Boris Johnson’s cabinet to find agreement on spending priorities. While we are now more moderate on our outlook for cyclicals (e.g. financials) vs. defensive companies (e.g. consumer staples), we remain convinced the environment will continue to favour active managers. For that reason, we hold more active assets vs. passive assets in the UK than in other regions.
When investing, the value of your investments, and the income you receive from them, can go down as well as up and you may not get back as much as you invested.