# Fidelity Special Values: The case for investing in UK equities

- Link: https://www.directorstalkinterviews.com/fidelity-special-values-the-case-for-investing-in-uk-equities/4121119049
- Published: 2023-05-16T11:17:30+01:00
- Author: Amilia Stone

**The case for the UK**

With the UK having been a relatively unloved market by investors for some years,
recent performance has begun to reignite interest. From a strong financial sector
to ongoing M&A activity, **[Fidelity Special Values plc](https://www.directorstalkinterviews.com/company/fidelity-special-values/fsv.l)**(
[LON:FSV](https://www.directorstalkinterviews.com/company/fidelity-special-values/fsv.l))
portfolio manager, Alex Wright, examines the reasons to be positive about the UK’s
prospects moving forward.

The UK has been relatively unloved by investors in recent years, with many deciding
to look at opportunities in the US or Europe instead. With events such as the UK
mini budget at the end of 2022 bringing about financial turmoil, investors have 
felt that this has been indicative of the instability of UK markets in recent years.
However, 2022 saw UK equities outperform both US and European markets. Does this
mean that there may be opportunities to be found in UK markets?

**A positive shift**

In recent years we have seen a de-rating of UK-based equities due to top-down concerns
around Brexit, economic uncertainty and mixed messaging from policymakers. In a 
global context, we believe that this de-rating makes UK equities undervalued compared
to other developed markets, especially when compared to stocks in the US.

Investment in the UK is compelling when you compare current UK valuations to historic
valuations. Prior to 2015, UK markets traded slightly higher than the Eurozone and
only at about a 10% discount to the US. In the 5 years after that point, the valuation
gap expanded with UK stocks closer to a 45 or 50% discount compared to the US. With
the UK generally trading on 10.5x forward earnings currently, it is well below its
10-year average, providing a compelling case for UK equities moving forward.

This valuation narrative began to bear fruit in 2022 as we saw a more resilient 
performance from UK equities than European and US markets. 2022 also saw value stocks
outperform and provided UK equity strategies with a broader tailwind due to the 
UK’s tendency towards a value bias. The start of 2023 has continued this positive
trend and could signal more opportunity to come.

**Banks provide opportunity **

The UK has a long history within the bank and financials sector, though it has fallen
out of favour in recent years. We hold large positions in banks across the spectrum
for a variety of reasons. While controversial at the moment due to recent events
with Credit Suisse and US-based banks, financials provide both quality and value
opportunities as the sector has evolved greatly over the past 10 years.

The industry faced a plethora of headwinds following the financial crisis, with 
falling rates squeezing margins on deposits and increased regulations meaning shareholders
faced a reduced share of profit due to fines and stronger balance sheet requirements.
Now, however, we have begun to see those headwinds convert into tailwinds as tighter
regulations ensured better balance sheets and strong funding. This has converted
into higher levels of buybacks and greater profit sharing now that fines have been
paid off. In addition, the low interest rates that followed the financial crisis
have started to rise, meaning greater margins on deposits can be achieved and an
additional revenue stream is re-emerging for UK banks.

These deposits have a tendency to be “stickier” than those in US banks, so present
a lower risk revenue stream and banks such as top-ten holding NatWest are well placed
to benefit from this higher rate environment. This stickiness and broader, low-value
deposit base can also help insulate UK banks from the problems hitting those in 
the US.

In addition to positive sentiment around banks, we believe that there are reasons
to be positive about life insurance. We view the life insurance sector as being 
very defensive and it has demonstrated its resilience through different cycles over
the past decade. When the Covid pandemic forced the world into lockdowns, many businesses
saw their earnings negatively affected, but earnings of those in the life insurance
sector, such as Legal & General, Phoenix and Aviva, did not fall. In addition, attractive
valuations, high dividend yields and compelling earnings supported by annuity products
providing longer term cash generation give encouragement for longer term returns
from this sector.

**Consolidation can bring upside**

While there are longer term value opportunities to be found, these lower valuations
also provide the prospect of mergers and acquisitions. UK M&A activity has been 
unprecedented in recent years, driven primarily by private equity and US-based corporates
who are willing to pay prices based on US valuations. Special Values has been able
to take advantage of this interest in 2022 with M&A activity having taken place 
across the market cap spectrum.

While rising rates have dulled the ability of private equity groups to borrow, we
expect to continue to see bids from corporates and we see potential for our holdings
to continue to benefit. In the first few months of 2023, already three of our holdings
have been bid for.

**The outlook looks bright **

The relative attractiveness of UK valuations versus other markets and the large 
divergence in performance between different parts of the market continue to create
good opportunities for attractive returns from UK stocks on a three-to-five-year
view. In our opinion, the UK market with its higher dividends offers a better prospective
return than many other asset classes, including global equities.

**Important information**

The value of investments and the income from them can go down as well as up, so 
you may get back less than you invest. Overseas investments are subject to currency
fluctuations.

The shares in the investment trust are listed on the London Stock Exchange and their
price is affected by supply and demand. The investment trust can gain additional
exposure to the market, known as gearing, potentially increasing volatility. The
trust invests more heavily than others in smaller companies, which can carry a higher
risk because their share prices may be more volatile than those of larger companies
and the securities are often less liquid.

This trust uses financial derivative instruments for investment purposes, which 
may expose it to a higher degree of risk and can cause investments to experience
larger than average price fluctuations. Reference in this article to specific securities
should not be interpreted as a recommendation to buy or sell these securities and
is only included for illustration purposes. Investors should note that the views
expressed may no longer be current and may have already been acted upon. This information
is not a personal recommendation for any particular investment.  If you are unsure
about the suitability of an investment you should speak to an authorised financial
adviser.

The latest annual reports, key information document (KID) and factsheets can be 
obtained from our website at www.fidelity.co.uk/its or by calling 0800 41 41 10.
The full prospectus may also be obtained from Fidelity. The Alternative Investment
Fund Manager (AIFM) of Fidelity Investment Trusts is FIL Investment Services (UK)
Limited. Issued by Financial Administration Services Limited, authorised and regulated
by the Financial Conduct Authority. Fidelity, Fidelity International, the Fidelity
International logo and F symbol are trademarks of FIL Limited. 

UKM0422/381525/ISSCSO00120/NA

**Fidelity Special Values PLC **(LON:FSV) aims to seek out underappreciated companies
primarily listed in the UK and is an actively managed contrarian Investment Trust
that thrives on volatility and uncertainty.

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