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The outlook for the UK has improved dramatically over the past couple of months. In terms of data, Q1 GDP beat consensus expectations, thanks to a smaller contraction in output during lockdowns. This suggests that the economy is better adapted to the implications of the economic restrictions.
Additionally, high frequency data suggests the economy gathered even more momentum in April, as lockdown eased further, particularly consumer services which suffered the brunt of the restrictions. A measure of spending on credit and debit cards is now close to its pre-pandemic levels, while restaurant bookings have risen to around a third above their 2019 levels as consumers revel in their newly found freedom.
The UK is at the forefront of the re-opening trade, with a large percentage of the population already fully vaccinated. Thereby, we expect this uptick in consumer expenditure momentum to carry on throughout the rest of the year, as the pent up demand is released. The basis for this is an above trend level of savings which are expected to be unwound, particularly in consumer services.
The pace and timing remains highly conditional on the development of the pandemic. Recently there were concerns over the so called Indian variant, which could potentially disrupt the timeline for re-opening. This new variant has taken centre stage and become the dominant strain, with 75% of new cases in the UK attributed to it according to health secretary Matt Hancock. More recent news about the preliminary data on the effectiveness of the current vaccines on the new known strain is encouraging, as they are proven to be highly effective.
Inflation is set to remain a major theme in the opening trade as this is driven higher by a combination of base effects, rising commodity prices, supply chain disruptions and temporary mismatches between the speeds at which demand and supply come back online, especially for pandemic stricken sectors.
Monetary policy is expected to remain accommodative in the short term, with a hike not expected in this calendar year, and probably not in 2022 too. This is because policy makers acknowledge that a sustainable economic recovery, and persistent levels of inflation close to the 2% level takes a while to achieve.
In sum, UK equities are poised to perform given their high value factor exposures and the ongoing Growth-to-Value rotation occurring in the markets worldwide. The price/earnings (P/E) ratios of UK equities is attractive on a comparative basis, with the FTSE 100 index trading at the lowest P/E level among European peers.
In fixed income, gilts, like other European investment grade bonds are expected to underperform other asset classes, with the rising inflation expected to push yields sequentially higher throughout the next months. Pockets of value remain in lower rated corporate debt, as the improving outlook and metrics have a spread narrowing effect on corporate yield curves, however being selective on names remains paramount.
Furthermore, the GBP itself is at a secularly attractive entry point, despite the decent run up higher in recent months. Given our view that the positive fundamental UK story and improving global outlook will remain intact this year, GBP is likely to remain well supported.
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