Jane Coffey, Royal London Asset Management’s Head of Equities, anticipates a greater divergence in company valuations in 2010 and believes that companies’ overseas earnings will be an increasingly important factor for UK investors.
The last two years have been a rollercoaster ride for
equity investors. The economy plunged into a deep recession before huge government policy responses began to generate the belief that we would enjoy some kind of recovery and equities have gyrated accordingly over this period.
For an investor, the main calls have been dependent on understanding the big macroeconomic trends and how they affect the market, whereas I feel that
2010 will offer a calmer, more moderate ride and stock picking will again become the main driver of investment returns.
Equity markets as a whole still appear to be valued below their long term averages based on either earnings or asset values and, having been the worst performing asset class over the last decade, could surprise the market by performing strongly in the next one.
In addition, whilst income from other assets such as bonds and cash are at record low levels, dividend yields on most equity markets remain well above inflation despite corporate profits having fallen sharply and many companies having cut their payouts.
Since the markets troughed in March, we have seen a remarkable rally in the cyclical sectors. In particular share prices of banks and mining stocks have more than doubled with many individual stocks moving up three or four fold.
The differential in valuations between companies with good long term growth prospects and those which are growing only because they are recovering from cyclically depressed levels is almost non-existent whilst strong and weak balance sheets are also no longer big value differentiators. I believe this will change again in 2010 and that stocks with strong balance sheets, good cashflows and premium earnings growth will re-rate against their lower quality peers.
For a UK investor, overseas earnings are likely to be increasingly attractive as the UK domestic economy is hit by tax increases and government spending cuts as the overblown public sector deficit has to be reduced.
Compass, a global leader in contract catering is just the sort of company that I believe will perform well. It trades on 13x 2010 earnings with a 3.5 per cent dividend yield and I expect it to show high single digit annual earnings growth over the next three years.
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