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Can a strong stockmarket still be seen as cheap?

Can a strong stockmarket still be seen as cheap? UK equities have enjoyed a strong rally, with June seeing investors begin to return to growth businesses. And the gain in global markets is in part explained by central bank asset purchases now totalling almost one-third of the value of global equities. But even within this broadly based global recovery, the UK still has special attraction. This follows years of Brexit uncertainty and the withdrawal of many international investors until the trading outlook became clearer.

UK economic growth appears to be running at around 7% this year, helped by stimulation and a successful vaccination programme. Yet, the UK equity market is still below its 20 year average rating. By many measures, British shares on average stand at a discount to the rest of the world. In particular, even adjusted for the sector biases in UK listings, the UK market still lags the US and Europe in valuation. It is hard to argue that the UK is a less dynamic economy than the Eurozone; indeed, Brexit appears to have triggered renewed national purpose with a focus on resilience and sustainability.

Furlough and some stimulation schemes will soon wind-down; forbearance on some debts and tax will reverse. But there is scope for capital investment to pick-up and the currently high level of personal savings could unwind as consumers gain confidence. If there is a clear indicator of the underlying dynamism of the UK economy, it is surely the level of IPOs and the window this offers into value creation in emerging disruptive business models. Many of these enter the stockmarket as small or mid cap, but are destined to be much bigger businesses. Those new business models and technologies are likely to undermine value within some of today’s goliaths, particularly in banking and consumer sectors.

The new listings remind investors that there is a cycle in the life of companies, with risk in mature businesses that operate with legacy cost structures. No longer should big ‘blue chip’ businesses be seen as safer; many are fighting the challenge of innovative new competition. Inflation may not change this evolution. Investors may view recent months as a rotation from growth to value, but the bigger picture is that traditional legacy businesses are giving way to growing small and medium sized entrants. The UK economy is dynamic, and by many measures still offers value.