Time To Stop Being UK Permabears?

A strong set of PMIs from Thursday got us thinking.

During the trading day on Thursday, we noted something interesting. Preliminary PMI data for both the UK and the US were released. The manufacturing reading for the UK beat expectations at 52.5. In contrast, the US reading was 48. Not only was this a contractionary figure, but well below the forecast of 49.6.

So even though a lot of chat right now is on the health of the US economy (which we touched on in Wednesday’s piece here), there’s also a potential divergence happening relative to the UK.

Put another way, the decent PMI data out of the UK is another data beat which backs up the case that the economy is actually doing pretty well. Yet investing in UK assets is still seen by some of our international friends as a bit unnecessary. Indeed, although many here in the UK won’t admit it, being a permabear is fairly common.

Permabear = someone who is always negative about the future outlook of a particular financial market or economy.

So we wanted to make a case today on whether it is indeed time to through off the shroud of negativity and buy some 3x lev FTSE 250 ETFs and GBP/USD Calls, or if we just need to sit tight for the coming months ahead.

Where We Started The Year

Like many others, we came into 2024 being rather pessimistic about the UK economy and related assets. In February, the data confirmed that the UK recorded a negative Q4 ‘23 GDP print of 0.3%. When coupled with the fall of 0.1% in Q3, it pushed the UK into a technical recession.

The stock market was also a cause of concern. When we looked across the pond at the tech-heavy Nasdaq index, it appeared to be notching fresh all-time highs by the day. Led by the invincible Nvidia and other members of the Magnificent 7, the gains highlighted just how much the FTSE 100 was lagging.

Even over a broader time horizon, the UK seemed like the ugly cousin. Below shows the performance from Jan 1st 2021 to Jan 1st 2024 of the S&P 500 (blue), Nasdaq 100 (purple), FTSE 100 (white) and FTSE 250 (orange).

Some said this was just due to the lack of tech firms in the UK; others cited chatter of big IPOs heading to the US as another nail in the coffin for UK capital markets.

As for the Gilt market, it was telling us that interest rates were going to have to stay higher for longer. The January CPI print of 4% was still double where the Bank of England needed it to be for Governor Bailey to be relieved of his monthly letter writing to the Chancellor.

Against this backdrop, it’s no wonder that UK bears were quickly turning into permabears. Not even the Taylor Swift induced hotel demand spike or England reaching the finals of the Euros can rationally be flagged as a turning point. But over the past month, we’ve felt somewhat of a changing tide in the institutional space. So the question beckons, what has meaningfully changed?

The Turn of The Tide

Firstly, we put the change in sentiment down to the new Government. Regardless of political affiliation, a change of ruling party after over a decade of the incumbent is seen by many as a fresh start. With a fresh start comes an air of optimism. Look at the move higher in GBP against USD in the immediate aftermath of the election result. Even though the outcome was already expected, the appreciation to us is very telling. Since then, GBP/USD has gone on to trade above 1.3100, the highest level since July 2023.

The first interest rate cut from the Bank of England in this current cycle was noted earlier in August. Going into the meeting, the markets were pricing almost a 50:50 split of whether a cut would be seen or not. Now, the market has just under 50 basis points worth of cuts priced in through to the end of the year. The cementing of the first-rate cut has sparked further optimism in the UK. The sensitivity of the consumer to cuts, which flows through to lower mortgage rates and other liabilities has been noticeably felt.

Below is the current pricing run for the next year:

Third, it’s true that economic data out of the UK has been improving. The Citi Economic Surprise index for the UK moved into positive territory back at the end of March and has stayed there ever since.

Economic Surprise Index = it represents the sum of the difference between official economic results and forecasts. With a sum over 0, economic performance generally beats market expectations. With a sum below 0, its economic conditions are generally worse than expected.

In a swift pivot from the recession of late last year, Q2 GDP growth rose to 0.6%, banking the 0.7% growth from Q1.