The UK stock market, long overshadowed by its global peers, may finally be on the cusp of a significant revival in 2025.
Despite achieving a modest 6% gain in 2024, the FTSE 100 has consistently lagged behind benchmarks like the Euro Stoxx 50 and the S&P 500.
Yet, a combination of enticing valuations, robust shareholder payouts, and defensive sector exposure is positioning UK equities as a strong contender for global investors seeking stability and income in an uncertain economic landscape, according to a report by Bloomberg.
Dividend yields and cash flows drive appeal
The FTSE 100 stands out in the developed market space with its impressive dividend yield of around 4%.
This far exceeds the Euro Stoxx 50’s yield of 3.3% and the S&P 500’s 1.4%, offering a compelling case for income-focused investors.
Additionally, the index boasts a free cash flow yield of 7.2%, twice as high as the MSCI World index, underscoring its undervaluation and profitability.
“I’m more bullish now than I’ve been the last 30 years of my career,” Gervais Williams, manager of the Diverse Income Trust at Premier Miton Investors told Bloomberg in a report.
“The main background is of course that the UK is standing on a low valuation” relative to peers, he said.
UK companies are also well-equipped to navigate economic challenges, he added, noting that UK corporations generate substantial cash surpluses, positioning them to be more resilient than other markets if challenges arise in 2025.
He observed a growing trend among global investors toward income-focused strategies, particularly those centered on dividend-paying stocks, which could make the UK market a key beneficiary.
Financials and buybacks bolster performance
Financial stocks, accounting for 21% of the index, have been a significant driver of the FTSE 100’s performance this year.
Key players such as NatWest Group, Standard Chartered, and Barclays recorded gains ranging from 50% to 84% in 2024.
Industrial names like Rolls-Royce and International Airlines Group also saw their shares nearly double, reflecting strong recovery momentum in their respective sectors.
A surge in share buyback programs has further supported stock prices.
Over the past two years, nearly 45% of FTSE 350 companies have engaged in buybacks, taking advantage of undervalued market conditions to enhance shareholder returns, according to Henry Dixon, portfolio manager on the UK discretionary equities team at Man Group.
For instance, NatWest and Imperial Brands saw their shares climb by approximately 80% and 40%, respectively, driven in part by these initiatives, he said, adding,
By redirecting cash flows to repurchase shares, companies are capitalising on low market valuations to enhance shareholder value and boost earnings per share.
Resilience amid global uncertainties
The FTSE 100’s defensive nature makes it particularly appealing in a world fraught with uncertainties.
With 30% exposure to consumer staples and healthcare sectors, the index tends to perform well during periods of economic instability.
Moreover, 75% of its revenue is generated outside the UK, making it less dependent on domestic economic conditions and more sensitive to global trade dynamics.
The potential return of Donald Trump to the US presidency in 2025 could trigger heightened policy uncertainties, including trade wars.
However, the UK market’s focus on service-based exports rather than goods provides a unique advantage, as services are less likely to face tariffs.
“There are large-cap UK stocks with significant US exposure, but most both produce and sell in the US and they should gain from the stronger US economy and dollar,” according to Goldman Sachs Group Inc. strategists led by Sharon Bell.
Political stability at home could further enhance the UK’s attractiveness.
With elections in France and Germany raising the potential for political upheaval in Europe, the UK may present itself as an island of relative calm, especially under a new government with a strong mandate.
Persistent challenges for UK equities
Despite the optimistic outlook, the UK equity market continues to grapple with structural challenges.
Outflows from UK stocks have persisted, driven by de-equitization trends, including mergers, a dearth of IPOs, and corporate relocations to the US.
UK large caps currently trade at a steep 40% discount to their global peers, a reflection of years of underinvestment.
A major factor behind this discount is the lack of domestic capital allocation to UK equities.
According to Goldman Sachs, only one-third of the UK equity market is held domestically, compared to over 80% in the mid-1990s.
This decline is attributed to reduced participation by pension and insurance funds, as well as households.
Moreover, global fund managers remain skeptical.
A recent Bank of America survey revealed that global investors are net 14% underweight in UK equities, marking the worst sentiment since April.
M&A activity and a stable economy offer hope
Amid these headwinds, there are positive signs on the horizon.
Analysts predict that the pace of mergers and acquisitions will remain strong in 2025, driven by low valuations and a stable economic environment.
“We think the pace of corporate activity in the form of mergers and acquisitions can maintain a healthy pace. This reflects the low valuations of good companies as well as well as a stable economy and government,” said Adrian Gosden and Chris Morrison, portfolio managers at Jupiter Asset Management.
The Bank of England’s interest rate policy will also play a crucial role in shaping the market’s trajectory.
Although rate cuts appear unlikely in the near term due to persistent inflation pressures, investors remain hopeful that monetary easing could resume later in the year, providing further support to equities.
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