The UK economy is still mired in its longest continual decline on record,
figures showed last week, prompting investors to reassess the rally that has
boosted stocks since March.
The Office for National Statistics said that the economy contracted by 0.4%
between July and September, against expectations of a 0.2% rise that would
have brought the recession to an end. The economy has contracted for six
successive quarters — the first time it has done so since records began in
1955.
The Ernst & Young Item Club, an economic forecasting group, is predicting
a VW-shaped recession, where growth drops back several times. It said that
after the election, growth in 2010 would be restricted to about 1% by tax
rises and the servicing of national debt. Henk Potts, equity strategist at
Barclays Wealth, has predicted 1% growth in the euro zone and 2% for America.
Adrian Lowcock of Bestinvest, the adviser, said: “We think any recovery will
be weak. Long-term high unemployment and high debt will effectively put a
lid on it.”
The gloom contrasts with record stock market rises. The FTSE 100 is up about
50% since its March low, closing at 5,243 last week. However, some investors
have got the jitters and taken profits. Qatar Holdings, a sovereign wealth
fund, sold a 3.5% stake in Barclays in a £1.4 billion deal last week.
Richard Buxton, head of UK equities at Schroders, the fund manager, said
investors would be seeking “real growth opportunities” if economic expansion
proved weak. “Through 2010, the stock market is likely to differentiate
between those companies that can offer real sales growth and those driving
profits by cost-cutting alone,” Buxton said.
He predicted that the market would resemble Wall Street in the 1960s, when a
number of companies known as the “nifty 50” were seen to offer higher growth
than their counterparts. The 1990s technology boom saw a similar phenomenon,
though those stocks became overvalued and ultimately crashed. Buxton
believes that valuations today remain reasonable.
“Unlike in the tech boom, valuations across the market are pretty even, so
there is an opportunity for investors to pick out future winners without
paying over the odds,” he said.
Here we offer tips on investing in an anaemic recovery:
Find today’s nifty 50
Many companies have reported better than expected results for the third
quarter, but often this was a result of cost-cutting rather than genuine
growth.
Buxton said the real winners would be those that offer genuine growth next
year. He tips Experian, the credit reference agency, which has seen group
sales rise despite a fall in the UK and America as fewer people take out
loans and mortgages.
“Experian has a burgeoning presence in faster-growing countries such as Brazil
and has increased sales through the downturn,” said Buxton. The stock is up
33% this year.
Another tip is the supermarket giant Tesco, which is building its
international business aggressively and operates in 13 countries. It
recently announced an 8.6% rise in pre-tax profits to £1.57 billion for the
six months to the end of August, ahead of expectations.
Its expansion into banking, with plans for a Tesco current account, enhances
its growth potential. This month, Tesco Personal Finance was rebranded Tesco
Bank. Buxton said: “This provides a further avenue for growth, picking up
disillusioned customers from high street banks.”
Buxton also tips Burberry (catwalk pictured above), up 149% this year.
Though it may seem counterintuitive to buy a luxury goods brand during hard
times, Buxton said the company was likely to show continued growth thanks to
new products, such as childrenswear and expansion into new regions, such as
the Middle East.
Back outsourcing
Jonathan Jackson of Killik & Co, the stockbroker, tips outsourcing
companies that help government and corporations to cut costs.
He likes Serco, which recently won a six-year contract worth £140m to
establish a cycle hire scheme in London. The stock has risen largely in line
with the FTSE All-Share index since the March low, and Jackson believes it
will sustain growth. The stock is trading at a 20% premium (to total asset
value) but Jackson says it looks good value given the firm’s projected
growth of 10% compared with the predicted rise in gross domestic product of
about 1% next year.
Go for quality
Bank stocks have seen some of the fastest growth in the market rally, but a
number of investors believe it may be time to change tack.
Richard Wilmot, of the Newton Growth fund, suggested considering firms that
have “strong fundamentals”, such as good balance sheets and healthy cash
flow, yet have been left behind by the rally, including retail giants
Morrisons and J Sainsbury.
In comparison with the near 50% rise in the FTSE 100 since March, Morrisons is
up only 15% and Sainsbury’s 18%. The Qatari fund that sold Barclays is
expected to buy Sainsbury’s shares instead.
“Anything that did well up to March has done relatively badly since because
investors sought more cyclical stocks to benefit from the rally. The trend
may now move in the opposite direction,” Wilmot said.
Back the survivors
The credit crunch has seen many firms go under, which has benefited their
stronger competitors.
Jeremy Smith, of the Neptune UK Equity fund, said: “The credit crisis has
created an opportunity for the survivors.”
He tips Kingfisher, owner of B&Q. While not an obvious choice in a time of
restricted consumer spending, Smith said that it had been boosted by the
demise of some of its biggest competitors, such as MFI. The stock has risen
125% over 12 months compared with the 28% rise in the FTSE 100.
Go global
Richard Plackett, of Blackrock’s Smaller Companies fund, thinks that a
“two-stage” recovery is under way. “While the UK and America are likely to
see anaemic growth, emerging markets are undergoing a real industrial
revolution,” he said.
He likes the London-listed company Aveva, which produces engineering software.
It is likely to benefit from the building of nuclear power stations in China
and is up 73% this year.
Plackett also likes technology companies. “There was a cyclical peak for
technology in 1999 and again in 2007, but companies are using more
semiconductors today,” he said.
Jeremy Gleeson, of the Axa Framlington Global Technology fund, recommends
Imagination Technologies, which is up 244% this year. It produces graphics
for devices such as the Apple iPhone. He also tips Tandberg, maker of video
conferencing equipment. The global giant Cisco has plans to buy the firm,
which is up 95% this year.
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