By Stuart Andrews, Managing Director, finnCap

 

Popular opinion seems to be that the pandemic is on its way out and that come autumn we will enter a brave new post-pandemic world. What does this mean for the stock market and what are the right areas to look to for investment?

Whilst it is often forgotten, the large Conservative majority in December 2019 and the rhetoric of getting Brexit done heralded a return to more benign equity market conditions and, more importantly, inflows into UK focused funds. This was turbo charged by the rapid falls in market value in March 2020 and the subsequent rapid recovery fuelled by large amounts of liquidity from central government and high levels of retail activity from those with little else to do.

Whilst retail activity has gone quiet since lock down ended, the effects of forced liquidity and the inflow of funds post Brexit are still very much in evidence. The latter of these trends make UK equities an attractive asset class that is still historically undervalued but the former has somewhat darker connotations to which we will return.

If UK equities are an attractive asset class overall, then which sectors stand out?

A key area to determine is whether lockdowns have accelerated pre-existing trends permanently or imposed a fake reality which has allowed otherwise pedestrian businesses to flourish. It was clear that the traditional high street retailers were dead or dying long before the pandemic came along and it seems those who provide product direct to the consumer and have flourished during the last year are likely to remain winners.

However, many will have experienced unsustainable acceleration and therefore trade at lofty valuations. For others it is definitely a case of being flattered by extreme conditions. What’s more, it feels unlikely that the rush of building projects – which has enhanced the earnings of some physical businesses – is set to continue nor, unfortunately, is there likely to be sustained interest in early-stage drug development.

Clearly, entry price is important and those buying the direct to consumer e-tailers now need to be prepared to ride out some bumps as the market digests hard historic comps and a likely slowdown in growth. It will be worth holding on to though, as the market currently has few stocks exposed to this trend.

Similarly, some stocks that have been very exposed to the effects of the lockdown still look like good value (Nightclub venues, Logistics Businesses, Airlines) but need to be watched very carefully as the trend is against them. Overall, it is likely that the market will continue to see new entrants in high tech/AI e-tailers or developing clean energy trends. Investors are showing a willingness to buy these as the UK market looks to transition its constituent parts.

The elephant in the room is clearly inflation. Some argue for all liquidity provision to cease as soon as possible and others believe that the current inflation levels are related to the economy being awoken from its slumber and, as such, are specific rather than general. Ultimately, we don’t know – but in a world where the cost of taking the family out for a meal seems to have gone up steeply in the last few months – it seems sensible to consider that inflation might become an issue. If it is, then, once again, equities will represent an attractive refuge with stock selection weighted towards those who can pass inflation on to their customers or are at the start of the supply chain. Relevant sectors here might be commodity-based plays, powerful consumer brands or core enterprise software solutions. Some large resource companies currently trade on incredible dividend yields and the producers of traditional stores of value such as gold might represent value.