With the FTSE 100 having broken its record high in 2015 and the rally in global equities well into its sixth year, there are seemingly many reasons to be cautious on risk assets. 
Certainly, investors are facing potential headwinds in the form of mounting debt levels, the possibility of higher interest rates, slowing economic growth in China and the ongoing Greek debt fiasco.
Some, such as FE Alpha Manager Mark Martin, say these are all reasons to be cautious on UK equities, while others like Bruce Stout, Peter Spiller and Crispin Odey think a far more sinister financial event is on the horizon.
However Chris Burvill, manager of the £2.3bn Henderson Cautious Managed fund, says investors shouldn’t be disheartened.
“From where we are now, we believe there are some real opportunities in the UK equity market,” Burvill (pictured) said.
The manager, whose fund has been a top quartile performer in the IA Mixed Investment 20%-60% Shares sector over three, five and 10 years, says there are a number of reasons why he has been upping his exposure to the UK equity market over recent months.
Performance of fund versus sector over 10yrs
Source: FE Analytics
In this article, Burvill highlights the four major reasons why he is bullish and – by extension – why investors can afford to ignore all the recent bearish sentiment.
Everyone is bearish anyway
First and foremost, Burvill says the chances of a major correction in UK equities are very low as there are more bears than bulls in the current environment, suggesting there isn’t the ‘mania’ which usually sweeps through the market prior to a downturn.
The latest Bank of America Merrill Lynch Fund Manager survey shows asset allocators across the globe have been raising their cash weightings on the back of perceived market headwinds over recent months and Burvill says this is a good sign.
“Nobody likes bad news and there is plenty of it around at the moment. It always seems no-one wants to go out and buy in the midst of bad news but there are two very straightforward advantages to being bullish at this sort of time,” Burvill said.
“Frequently, the bad news turns better. Now I’m not saying the Greece crisis is anywhere near being solved, but the market worries about these sorts of issues and frequently turn on a sixpence.”
“The second point is, it means there are plenty of cynics on the sidelines and cynics on the sidelines is good news because they are waiting for the news to improve and therefore they are waiting to buy markets when the opportunities arise.”
Valuations aren’t that expensive on a relative or absolute basis
Given that the FTSE All Share is up a hefty 160 per cent since it bottomed after the global financial crisis in March 2009 and has had a maximum drawdown of just 15 per cent over that period, many now warn that valuations are too high.
Performance of index since March 2009
Source: FE Analytics
Burvill accepts that valuations have been pushed up by policies such as ultra-low interest rates and quantitative easing (QE), but he thinks most fears have been overblown given that the FTSE All Share’s cyclically-adjusted P/E ratio (CAPE) is 15 times.
“There is this idea that markets have never been so expensive – I’m afraid I struggle with that,” he said.
“The method of choice to argue this point is the CAPE, which we see in the US is a little bit elevated but in the UK it looks absolutely fine. However, my view is that the Americans are grown up and can look after themselves – plus they consistently rate their equity market higher than we do.”
“But it all comes back to the very familiar chart, which is the difference between earnings yield in the UK versus gilt yields.”
In his presentation, Burvill showed that the forecasted earnings yield on the FTSE All Share is 6 per cent. While that earnings yield has been falling, he points out it is still considerably higher than the income available from a 10-year gilt – which yields just 2.32 per cent at the time of writing.
“To my mind, it begs the question, if equities are expensive and people are worried about valuations, where are they going to invest their money? Certainly cash is expensive, bonds look expensive, real estate is expensive, wine markets, art markets etc – everything is expensive because of the impact of QE on valuations.”
“I would not single out equities, to any degree, of being more expensive than any other asset class.”
Corporate profits are below trend
The manager also argues that, despite the consensus, UK companies are in good financial shape and can deliver stronger growth in the future.
“Some argue that profits are too high. If that were so, it would be shown that Ed Miliband’s recent argument that ‘employers are doing well and employees are doing badly’ was true. But it’s not really coming out in the statistics.”
The graphs below highlight the average employee’s compensation as a percentage of GDP and UK corporate profits as a proportion of GDP – both of which are below trend.
Source: Lazarus Partners
“Yes, employees aren’t doing particularly well, but you would expect that employee compensation to GDP to be a lot lower if companies were exploiting their position or making overly high profits. Again, if you look at companies’ profits relative to GDP, you would expect them to be a lot higher if you thought they were overearning at the moment.”
“Again, I see no evidence that either company valuations or the overall earnings are too high. If anything, company profits are below trend. Because oil stocks, banks and miners have suffered overall earnings have been weak relative to where we would expect them to be.”
“I would expect company earnings to be accelerating rather than decelerating over the years ahead.”
The economy is improving
Finally, and most importantly, Burvill says that the underlying economy is improving.
He points to the Asda Income Tracker, which measures the weekly spending power of the average UK family. As the graph below shows, it has been steadily trending higher over recent years. Burvill says this is fantastic news for the UK economy as a whole.
Performance of index since Jan 2008
Source: ONS, Asda and Citi Research
“The outlook for consumers has been and is improving. They have benefitted from cheaper food prices, cheaper oil and petrol prices and wages – which we have seen – are starting to go up.”
“This hasn’t yet fed into the wider economy. Clearly, government spending is not has as strong as it has been in previous upturns and we that consumer spending has been volatile but is much, much stronger than company confidence, as shown by PMIs.”
He added: “To my mind, this boost in consumer confidence – and all figures here are from before the election – could well translate into better company confidence – which should give the economy an extra boost.”
