UK equities are having a bummer birthday
UK equities are having a bummer birthday
The FTSE 100 recently turned 40. Lack of demand is clouding its future.
Last Wednesday the FTSE 100 celebrated its 40th birthday, and middle-age is not treating it kindly.
Recently, not a week has gone by without a company either announcing its plans to de-list from the London Stock Exchange (LSE), or choosing to list in New York over London. This week, it was TUI, Europe's largest tour operator. Citing investor pressure, the company said it is no longer "advantageous" to have a British listing.
Today, let's dig into the funk UK equities are experiencing. It is neither temporary nor short lived, and has been weighing heavily on the UK asset management industry. Is the situation still fixable?
Outflows out of UK equity funds since Brexit have reached £80bn, and the pace of outflows is accelerating. According to Morningstar data (as reported by Financial News), £26.2bn flowed out between January and October 2023, surpassing total outflows for the previous year.
It's all manifesting in low trade volumes. London's monthly volumes are now less than half of that on Euronext. The LSE has not traded at higher volume levels than Euronext since November 2018.
True, tech stocks, which aren’t a FTSE strong suit, have been pushing US stocks up up up. Still, according to analysis from AJ Bell, the FTSE 100 has only risen by an annualised 0.4% since the turn of the century. On forward earnings, the FTSE 100 is reportedly trading at a 45% discount to the S&P 500. Even against the MSCI World index ex-US, it still trades at a 19% discount!
So UK equities are cheap. The industry doesn’t like calling them that, so it calls them ‘undervalued’ instead. But they’ve been undervalued for an awfully long time.
Undervalued implies the true value isn’t just higher, but that eventually it will manifest. If prices are persistently low, maybe cheap was right after all… Companies prefer not to be undervalued, but cheap is a real blow. In TUI’s own words: definitely not advantageous.
Fewer listings; poor performance; outflows. It's a vicious cycle. Recently, there’s been talk of three ideas to stop it. Do any offer value to companies considering a listing? Let's review them in turn:
1. Hustle harder for listings: the City of London Corporation announced in December that it’s opening two offices in the US, in New York and Washington DC. At the time we said:
“All these companies are heading to NY to talk with the NYSE and the NASDAQ; wouldn't it be handy if the LSE has some sort of presence around the corner?”
Especially for the non-US companies: according to analysis by law firm Pinsent Masons, one in four of the LSE’s recent listings have been by companies incorporated outside the UK.
So one option is, competing for companies that may have a harder time attracting investor attention in the crowded US market. This solution at least offers companies a value-add they may not find elsewhere.
2. Raise CEO Pay: the thinking here is that if FTSE CEOs would get paid more, companies would be more inclined to list in London.
City AM cites a report from Equilar and Deloitte, saying that over a period where median pay package for S&P 500 chiefs rose 34%, it has gone down 13% for FTSE 100 CEOs.
It does have the whiff of the cart and the horse, though? US share-prices are the ones that rose; CEO pay, linked to stock prices, rose in tandem.
3. Push domestic investors to buy: in a letter published in The Times in November, a host of asset management chief execs called on the Chancellor to introduce a new 'British ISA'. The appetite on this one is weak, but you never know.
Last July, nine UK pension schemes agreed to allocate 5% of the assets in their default funds to unlisted equities by 2030. Currently, they allocate less than 1%. When these unlisted companies do list, maybe having a large UK investor base will nudge them to choose London?
These nudges may offer fixes, but hardly spell ‘confident market’, do they? It seems there’s just no getting around it: any meaningful solution will have to pitch a clear value to being a UK-listed stock.
Clearly, cheap isn’t working.
Treasure Corner: departing star managers
As reported by the FT, Jupiter announced this week that one of its star managers, Ben Whitmore, is leaving to set up his own firm. Jupiter is facing lots of uncomfortable conversations with clients, because investors tend to tag along with a departing star manager.
But should investors follow?
Last summer, Morningstar released a paper titled Fund Managers Switching Firms—Should You Tag Along? (by Mathieu Caquineau, Matias Möttölä, Maximilian Loth and Tamera Carter). Looking at US and European funds over the past 30 years, the paper checks up on the fortunes of investors following a manager departure.
On average, fund managers start off in their new place with a bang:
“On average, we observe a significant uptick in average alpha generation from the old firm (0.67%) to the new firm (1.36%) when looking at the three-year periods.”
The research lists a bunch of factors for why that might be the case, such as wanting to deliver good results quickly and a lower asset base. However quickly Whitmore builds his investors base, it’s easier not having to deliver alpha on £10bn of assets.
But the picture is not quite so clear cut, because 'on average' hides all manners of sins.
For one, out of 195 manager changes, 64% had a positive 5-year alpha at old firm. 67% of these maintained a positive 5-year alpha at the new firm. Also, not everyone stayed a star manager. The data suggests a strong reversion to mean.
In atypical candidness, Morningstar concludes:
"As alpha generation is a mix of luck (plentiful) and skills (scarce), it's not surprising that we don't find a strong relationship between alpha generated at the first firm and at the subsequent employer."
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