Columbia Threadneedle: UK equities – don’t believe the doom mongers

Key Takeaways

While Labour’s first Budget was a surprise in terms of the scale of the fiscal loosening, there remain grounds for cautious optimism about UK equities
The Bank of England’s cycle of rate cuts should support equities, as history shows the market rises in the 12 months following a cut
With valuations a key indicator of long-term future returns, the UK market has the advantage of being at a wide discount to other developed equity markets

Remember Tony Blair? When Labour won a landslide election victory in 1997 after 18 years of Conservative rule, it inherited an economy on the rebound after a bout of inflation and high interest rates in the early 1990s. In the months that followed, sterling surged and UK stocks rallied.

There were early signs of a similar carnival spirit after the current Labour government’s election in July – until the Budget on 30 October dampened the mood. Despite the press leaks in advance, the scale of fiscal loosening was a surprise. The Office for Budget Responsibility thinks this will stoke inflation, thus reducing the Bank of England’s scope for near-term interest rate cuts.

Before we get too miserable, however, there remain reasons for cautious optimism around UK equities. After all, the UK government still professes to have a pro-growth agenda, rate cuts should continue (if at a slower rate), and the equity market remains on a substantial discount to international peers. What’s more, with the largest majority government in 25 years, Labour should at least deliver the political stability that investors have long craved.

It is true that the scale of the extra taxes and borrowing in the Budget led to a decline in the pound and spooked the gilt market. However, tax increases were less steep than had been feared in some respects. The economy appears resilient and there are good reasons to remain optimistic with hopes that an increase in public investment should encourage a move towards a more productive economy.

A resilient economy, with growth measures to come

Although economic growth has slowed since the strong first half of 2024, UK household disposable income has been rising. The Asda UK income tracker follows the amount families are left with each week after paying for bills and other essentials. It showed disposable income rising by 12.7% in the third quarter of 2024 compared with the previous year, reaching an average of £248¹.The improvement primarily resulted from a greater-than-expected fall in inflation to 1.7% in September. This follows increases in spending power throughout 2024 as wage growth outstripped rises in consumer prices.

Household savings remain high compared to history, with Covid-era “piggy banks” still intact. The UK stands out as the region where consumers have been most cautious relative to history. If interest rates continue to fall and the economy remains stable, that should encourage consumers to spend rather than save. The UK might not enjoy the mini boom that accompanied Blair’s win, but it should at least remain robust.

Returning to Labour’s policy, it has also promised pro-growth measures. This is evident, for instance, in Chancellor Rachel Reeves’ plan to merge 86 council pension schemes and multiple small workplace pensions into a handful of pension “megafunds”². This should encourage higher domestic investment and create much greater scale, allowing more scope to invest in longerterm assets. Another example of pro-growth measures is the Financial Conduct Authority enhancing access to market data and investment research to support growth and competitiveness.

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