U.K. equities show value appeal amid mixed economic signals: UBS

UK equities, with the FTSE 100 recently hitting a record high above 9,000, demonstrate resilience despite June inflation rising to a hotter-than-expected 3.6% and a sluggish economy that contracted 0.1% in May. While this challenges immediate rate cut expectations, the Bank of England is still forecast to cut rates by 25bps in August. Earnings revisions are largely negative for 2025, though financials and utilities show stability, and UK equities remain attractively valued, particularly small and mid-caps, which UBS identifies as offering significant potential due to their discount and exposure to a potential UK recovery.

Analysis

UK equities are demonstrating notable resilience, with the FTSE 100 achieving a record high above the 9,000 mark, despite a conflicting macroeconomic environment. This strength contrasts with a hotter-than-expected June inflation reading of 3.6%, up from 3.4% in May, which complicates the monetary policy outlook. Nevertheless, consensus still anticipates a 25 basis point rate cut from the Bank of England in August, predicated on signs of an easing labor market. The underlying economy remains fragile, evidenced by a mere 0.5% expansion in the three months to May, a monthly contraction of 0.1% in May, and a composite PMI just above the 50-point growth threshold. The corporate earnings landscape is divergent; while overall 2025 earnings revisions are negative, defensive sectors like financials and utilities show stability, whereas energy and materials face headwinds from softer commodity prices. Consensus forecasts project modest 2% EPS growth for the FTSE 100 but a more robust 15% for the FTSE 250 in 2025. Critically, UK equity valuations remain attractive, with a significant discount to historical levels and global peers, particularly in the small and mid-cap (SMID) segment. This valuation appeal, coupled with improving investor sentiment and positive active flows in July, supports the case for UK equities, with analysts at UBS specifically highlighting UK mid-caps as well-positioned for a potential economic recovery.

Key Decisions for Investors

• Consider rotating capital towards domestically-oriented UK mid-caps (FTSE 250), which offer a significant valuation discount and higher forecast EPS growth of 15% compared to large-caps.
• Favor defensive sectors such as financials and utilities that exhibit stable or improving earnings prospects, while remaining cautious on energy and materials stocks facing negative earnings momentum from lower commodity prices.
• Maintain long exposure to UK equities to capitalize on their attractive valuation discount relative to global peers, but closely monitor upcoming inflation and labor market data as the anticipated August rate cut is a key catalyst.
• Note the positive shift in market sentiment and flows as a potential tailwind, suggesting that skepticism is waning and a broader re-rating of UK assets could be underway.