Analysis-Political woes and economic funk mean few takers for British assets

British stocks, bonds and the sterling are all feeling the malaise this summer, and optimism the outlook will improve remains muted after Boris Johnson said he would resign as British prime minister.

Laura Foll, a fund manager who focuses on the UK market, for example, says she can point to many British companies whose shares are cheap. But few others see it that way, she says.

“We find very lowly valued firms versus where they have historically traded, but it’s not helping the share price. There just isn’t that marginal buyer”,” said the manager at Janus Henderson Investors.

Whoever takes over from Johnson faces a highly uncertain economic backdrop that looks tougher than in other developed countries, regardless of how the politics play out.

Even if some investors expect a new government to unleash populist spending measures to boost support, room for manoeuvre is limited given the inflationary heat in the economy.

The pound, at two-year lows against the dollar, shrugged at Johnson’s resignation, suggesting that after months of scandals and instability British politics has lost the power to shock markets.

“Boris Johnson’s resignation does little to change the macroeconomic reality for the UK or the market reality for the pound,” said Tim Graf, head of EMEA macro strategy at State Street. “The toxic mix of rising household costs…and slowing growth look likely to test any future leader.”

Foreign investors have voted with their feet since the UK referendum in 2016 to leave the European Union, and there’s been no let up. In the first six months of 2022, investors pulled a net 11.3 billion pounds from British equity funds, Lipper data shows, their largest ever half-yearly outflow.

In contrast, global stock funds, also weakened by rising interest rates, have received net investment inflows of 31.3 billion pounds, according to Lipper.

Investor outflows are particularly bad news at a time when Britain’s trading strength has weakened. It racked up a record balance of payments deficit in the first quarter of the year of 8.3% of gross domestic product, a figure that may be revised..

(Graphic: UK current account, https://fingfx.thomsonreuters.com/gfx/mkt/klpykrxmjpg/Pasted%20image%201657203014119.png)

The International Monetary Fund predicts Britain will be the worst economic performer of the G7 in 2023.

“The UK economic situation is pretty frightening. I think we’re set to have the worst performance out of the G7, perhaps even the G20, going forward,” said Mark Peden, investment manager, global equities, at Aegon Asset Management.

“I certainly wouldn’t be exposed to the UK consumer at all.”

Outflows

With inflation forecast to hit 11% in 2022, consumers are indeed reining in spending, with retailers such as appliance retailer Currys and supermarket Sainsbury warning this week about falling sales.

The commodity-heavy FTSE 100 has outperformed wider equity markets in 2022, but the FTSE 250 index of smaller, more UK-focused companies has fallen 20% — in line with the MSCI World index.

Funds invested in small and mid-cap UK companies have endured year-to-date net outflows of 3.2 billion pounds, according to Lipper, more than any year since at least 2000.

There are headwinds now for the FTSE 100 too if the deteriorating global picture hurts commodity prices.

“If there is a global recession, the FTSE is going to be taking the brunt of it as well,” said Salman Baig, a portfolio manager at asset manager Unigestion.