Are UK Stocks Headed For A Reality Check?

The FTSE 100 Index’s bull run is headed for a reality check, according to HSBC Holdings Plc.

Equity strategists at the U.K. bank predict Britain’s benchmark will end the year down about 7 percent, reversing the current gain. They’re the most bearish out of seven prognosticators surveyed by Bloomberg, who on average forecast the index will eke out an advance of 0.6 percent in 2016 to 6,281.

The promise of central-bank stimulus will soon give way to harsher economic realities after voters decided to leave the European Union, said Robert Parkes, HSBC’s head of European equity strategy. Economists project the country is heading for a recession, something Bank of England Governor Mark Carney warned of as he pledged to make liquidity available to contain the fallout.

“We’ve had the good news, but we have the bad news to come — Mr. Carney’s handing out the paracetamol before the hangover kicks in,” Parkes said by phone from London. “Even though the FTSE has big international exposure, we still have to remember that it’s got about a third exposure to the domestic economy — not insignificant.”

Supported by the plunging pound, the FTSE 100 — mostly made up of multinational commodity producers, drugmakers and banks — has soared 5.6 percent since Britain’s shock vote to secede from the EU. After an initial plunge, the gauge erased its losses in just four days and managed to enter a bull market last week. As of Monday, it was up 7.3 percent for the year, becoming the third-biggest gainer among developed markets. The gauge slipped 0.1 percent at 8:15 a.m. in London.

The post-Brexit route has divided strategists who are mostly on the same page where European equities are concerned. Predictions for the FTSE 100 range from HSBC’s 7.1 percent loss to Natixis SA’s 6.1 percent gain. Still, all of them — even HSBC — agree that the index will fare better than Europe’s shares.

Investors and analysts have cited the falling pound as a reason to embrace the index’s large-cap exporters, which they say offer safety and better profits during a time of uncertainty. Analysts have tempered projections for earnings declines at FTSE 100 companies in 2016, calling for a contraction of 4.7 percent, versus an 8.5 percent drop on June 24.

Parkes said the FTSE 100’s international exposure has helped it beat peers in recent weeks, and the bank is overweight U.K. shares. But he expects fears of a recession to rise in the second half of 2016 as data showing the impact of the vote’s outcome become available, weighing on stock prices and earnings projections. For an indication of where the U.K. economy is going, Parkes pointed to the more domestic FTSE 250 Index, down 2.7 percent since the day of the referendum. Forecaster EY Item Club sees a recession around the turn of the year.

“Overweight doesn’t necessarily mean you buy it,” Parkes said. “It’s more of: if you have to be within European equities, where should you go? We think the U.K. market will go down less than Europe this year, but it will go down.”

HSBC sees the Euro Stoxx 50 Index losing 22 percent this year, the most bearish forecast in a Bloomberg survey of strategists this month.

The BOE said last week it needs more time to assess how Brexit has dented the country’s economic prospects, keeping rates unchanged but signaling it’s readying stimulus for next month. Its quarterly Inflation Report is due on Aug. 4 and will include new estimates for growth and inflation as well as the Monetary Policy Committee’s first full take on how the referendum outcome is set to affect the U.K.

Less widely followed data such as GfK’s consumer confidence figures — which tumbled the most in 21 years after the referendum — are already signaling the reality check that’s due for U.K. shares over the rest of the year, Parkes said. Business confidence also sank, according to figures earlier this month and a Deloitte LLP survey published Monday.

“There is a lot of hope built into U.K. share prices currently — hope on economic growth and hope on the political side,” Parkes said. “There is an unprecedented level of uncertainty on both of those issues. U.K. shares, including the FTSE 100, are in for a bumpy ride over the course of the next few months — in a downward direction.”

Bloomberg

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Dean Popplewell

Dean Popplewell

Vice-President of Market Analysis at MarketPulse
Dean Popplewell has nearly two decades of experience trading currencies and fixed income instruments. He has a deep understanding of market fundamentals and the impact of global events on capital markets. He is respected among professional traders for his skilled analysis and career history as global head of trading for firms such as Scotia Capital and BMO Nesbitt Burns. Since joining OANDA in 2006, Dean has played an instrumental role in driving awareness of the forex market as an emerging asset class for retail investors, as well as providing expert counsel to a number of internal teams on how to best serve clients and industry stakeholders.
Dean Popplewell