Domestic equities play a key role in most UK investors’ portfolios, accounting for 27% of their holdings on average1.
The UK macro environment is favourable, with decent economic growth and the consumer looking stronger. But the peculiarities of the main UK benchmark indices make it more difficult for investors to tap into the domestic recovery than in other markets.
The unusual structure of the market has made it relatively easy for UK fund managers to outperform in recent years. They merely had to avoid energy-related stock and miners.
We do not expect this pattern to last forever. As stock selection becomes more challenging, risk management could emerge as a key differentiating factor for UK funds.
How to profit from the UK economic recovery?
Domestic equities have long been the most important asset in UK investors’ portfolios, and there is little sign of that changing, with gross flows of GBP 36 billion into UK equity funds so far in 20152. In our last Market Bulletin, Are UK equities worth a closer look? , we put forward the case for an allocation to the UK equity market to benefit from the economic recovery taking hold in the country. But the structure of the UK market, and especially of its benchmark index, can make it difficult to put this advice into practice.
Investors who are tracking the FTSE 100 will see their play on the UK economic recovery drowned out by the global nature of the FTSE 100’s earnings - exposure that comes largely from its mega cap miners, energy and financial stocks. This is not very surprising when we consider that the companies that make up the FTSE 100 obtain only around 20% of their revenues from the UK economy, on average (Exhibit 1).
EXHIBIT 1: AVERAGE PERCENTAGE OF REVENUE SOURCED FROM THE UK