Having spent the last few years trying to convince asset allocators that buying UK equities at their cheapest point relative to global equities for fifty years was a better idea than buying global/US equities at their most expensive valuation in financial market history, it seems that there is no valuation low enough for UK equities, nor too high for US equities. Stocks on price to earnings ratios of 5x and dividend yields of 7% are being sold to fund purchases of names such as Nvidia, which is up 190% year to date and valued on 35x revenues.
Many investors seem to be nonchalantly disregarding the mountain of empirical evidence showing that starting valuation and subsequent returns are inversely correlated. Lessons from financial market history also appear to be a distant memory, including the Nifty Fifty collapse, Asian financial crisis, the dot com bust and the Great Financial Crisis. These events are seemingly irrelevant as ‘this time is different’, which echoes sweeping sentiment before these events unfolded. The fact that the great fortunes of investors such as Templeton and Buffett were made by ‘buying when others were despondently selling’ is also evidently irrelevant. Today’s mantra for many seems to be ‘buy what everyone else is buying and completely ignore valuation as it will only hold you back.’
So having been through the five stages of grief, I have finally reached ‘acceptance’ and it is somewhat comforting to know that fabled value investors such as David Einhorn of Greenlight Capital has gone through the same process. In a recent interview with Bloomberg’s Sonali Basak, he stated that “value investing might never come back,”
He continued, however, to say that this did not mean that value investing was dead but rather that the source of returns would change. If investors have no interest in buying a company on an earnings yield of 20%, then it is incumbent on the company to buy back their own stock and create value for shareholders that way. As Warren Buffett opined on this subject in Berkshire Hathaway’s 1984 letter to shareholders:
Investors frequently underestimate how powerful this can be. We wrote recently about how an investment in Next had turned £100 in 2001 to £1800 in 2022 as a result of a well-executed share buyback policy. In a similar vein, Einhorn had an investment in a US department store called Dillard’s. The story is written up in the FT article below but can be summarised by the fact that they used to have 100m shares in issue and now have 17m. We used to make the joke about buybacks that eventually “there will be only one share left and it will be worth £4bn” but that is basically what happened here and really explains why the share price went from $20 to $300 in a couple of years. As Einhorn puts it…….
Source: Bloomberg, as at 14th June 2023. Past performance is not a guide to future results. The information shown above is for illustrative purposes.
In light of this, we were very happy to read recently that UK companies themselves have been a “Massive Buyer of UK Equites” – with the current run rate in the region of £200m a day, which is a run rate of £1bn/ week, or £50bn/ year. Imagine if rumours circulated that there was going to be a UK buy programme trade every day for the next year of c £200m – how might the market react?
I have no expectation that this note will change anyone’s mind, and BP will probably continue to be sold on 5x earnings in order to buy Amazon on 85x earnings. But UK companies are not patiently waiting for investors to realise their value, and through increasing buybacks, we could see some ‘do a Dillard’s’. Unfortunately, at that point, it will be too late to allocate back to the UK, and investors who have been paying record valuations for US equities will be left hoping that this time really is different.
 Bloomberg, as at 30th June 2023, CNBC, as at 30th June 2023
 Redburn, RNS Announcements
No investment strategy or risk management technique can guarantee returns or eliminate risks in any market environment. Past performance is not a guide to future results. The prices of investments and income from them may fall as well as rise and an investor’s investment is subject to potential loss, in whole or in part. Forecasts and estimates are based upon subjective assumptions about circumstances and events that may not yet have taken place and may never do so. The statements and opinions expressed in this article are those of the author as of the date of publication, and do not necessarily represent the view of Redwheel. This article does not constitute investment advice and the information shown is for illustrative purposes only.