Take the FTSE 100 and the US S&P 500, not only are these two markets vastly different with regards their total market capitalisation (Apple Inc being worth as much as the entire FTSE 100) but also in their composition. Technology makes up a bigger percentage of the US market compared to the UK, but the FTSE has a higher proportion in Oil and Gas – this is key contributor to the reason why the same set of events can have dramatically different outcomes on two different economies.
 |
| Photo by Marcin Nowak on Unsplash |
Falling oil prices can cause the relevant oil stock to lose favour with investors and subsequently lead to a price drop, which will lead to a greater drop in the UK market than in the US due to the different exposures.
Gauging the value of the UK stock market is made easier by the fact that the publically traded British companies often generate the bulk of their profit oversees, so by focusing on a few sectors you can reasonably compare apples to apples.
Tobacco
The UK is home to two of the four major tobacco brands – British American Tobacco and Imperial Brands, the other two being Japan Tobacco International and Philip Morris International.
The tobacco industry is a useful measure as they all sell roughly the same generic product with a regular customer base, so it is more straightforward to draw comparisons between companies.
The Price to Earnings (P/E) ratio for all of the “Big 4” has trended downward in recent years, however the two UK companies have generally been significantly lower.
Q4 2020
Philip Morris – 14.3
Japan Tobacco – 12.6
British American Tobacco – 8.4
Imperial Brands – 4.7
Although it is true that investor sentiment for tobacco has been falling over the years, it appears that investors are even less interested in the London listings.
There are likely many reasons why there are such great differences in the valuation of these companies, perhaps Philip Morris and Japan Tobacco are just inherently better companies. Part of the difference might be explained by how these companies are adapting to the change in consumer tastes and spending habits such as introducing lines of vaping and e-cigarette products.
Fast moving consumer goods
This sector is broad and strictly speaking does include the aforementioned tobacco, but by focusing on manufacturers of food and household products the pattern of undervalued UK stock appears to persist.
Change in P/E from Q4 2015 to Q4 2020
Nestle = +22.2%
Colgate-Palmolive =+8.6%
Procter & Gamble = -3.5%
Unilever = -18.8%
Reckitt Benckiser = -21%
The two UK companies, Unilever and Reckitt Benckiser both sit at the bottom of the table by a significant margin. As I try to highlight throughout this piece, making comparisons between companies is always filled with issues and this sector suffers from the shear variety of products that are on offer and the differences between the ranges each brand might sell – one company may specialise in food, another in hygiene and one may be big in both.
However across the board, including companies that were not included in the above table, the UK persistently occupied the bottom of the table.
Oil & Gas
As previously mentioned oil makes up a major part of the FTSE 100, chiefly from Royal Dutch Shell and BP.
In this instance the comparisons will be done with Price to Book ratio rather than Price to Earnings – this looks at the stock price compared to the total value of the assets the company owns. This is a better comparison to use for businesses that are more asset heavy and are prone to making a loss with fluctuating commodity prices – particularly relevant for oil companies in 2020.
Price to Book ration of major oil companies Q4 of 2020
Chevron = 0.93
Exxon Mobil = 0.72
Total = 0.69
Royal Dutch Shell = 0.54
BP = 0.38
By comparing Price to Book ratios the two UK companies rank bottom, which has been the general trend for the past five years. Shells Price/Book is down 46% from 5 years ago and BP is down over 64%.
Are UK stocks definitely a bargain?
It is never wise to price a stock solely on a few ratios, even ones as widely used as P/E – a low ratio doesn’t necessarily mean cheap, a fact that could be revealed by a deeper analysis of the fundamentals. It could well be that under the hood some of the UK companies you may look at are seriously flawed in some manner compared to their non-UK rivals.
However the lower valuations of UK companies appears to be systemic and suggests that the UK stock market is being overlooked by most. What’s more, from the market level international investors appear to be staying clear, which could potentially be the opportunity for the diligent to pick up some great deals – fantastic news for the value investor.
Low investor sentiment might be justified by the double uncertainty cast from Brexit and the COVID-19 pandemic. UK could easily remain undervalued for some time, even with stable business growth – historically investing in lower valuations has tended to deliver better results for investors, although this is never guaranteed.
This
article is not advice and has not been prepared in accordance with legal
requirements designed to promote the independence of investment research – no
recommendations are given in the buying, selling or holding of any investments.
Past performance is not a guide to the future. Investments rise and fall in
value so investors could make a loss. Always seek professional advice.