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Hedge funds look beyond Brexit risks in bet on beaten-down UK stocks

Hedge funds are betting that UK stocks are set for a rebound, despite concerns over whether a trade deal can be reached with the EU before the end-of-year deadline.

After a largely miserable performance during the coronavirus crisis, some fund managers believe that UK stocks offer one of the last places to find bargains in a world where ultra-loose monetary policy has driven up asset prices. That optimism comes despite growing uncertainty over whether the UK and EU will reach agreement before the Brexit transition period expires at the end of this month. 

“We are finding very cheap stocks in the UK,” Paul Marshall, co-founder of hedge fund firm Marshall Wace, told the Financial Times. Sir Paul, whose firm is among the world’s biggest hedge fund groups with $50bn in assets — and who has been vocal in recent years on the opportunities presented by Brexit — predicted “a big M&A feeding frenzy” next year encouraged by these low valuations.

While “some of the value has gone” as beaten-down stocks such as telecoms group BT and leisure company Whitbread have rallied recently, “there are still lots of pockets” of value in the UK, he added. In October, Marshall Wace revealed a large position in British Airways owner IAG, which has also staged a partial recovery in recent weeks. A big bet against UK bank Lloyds has since been reduced to below the 0.5 per cent disclosure level.

Other firms are taking similarly bullish positions. The ratio of hedge fund bets on rising UK stocks compared with those on falling UK stocks is around its highest level in five years, according to a Morgan Stanley note sent to clients this month.

London’s FTSE 100 joined a global market rally last month, jumping more than 12 per cent in its biggest rise since 1989. Those gains have followed through this month, with the index up a further 4 per cent notwithstanding a wobble on Friday caused by rising angst over EU-UK trade talks.

One fund already benefiting from that uplift in UK stocks is London-based Lansdowne Partners. The firm has been a longtime fan of the UK, and told investors in January that its “conviction in the UK opportunity” was “very high”.

It suffered large losses in its main Developed Markets Long Only fund this year, in part due to positions in the UK, but regained nearly 21 per cent last month, according to numbers sent to investors and seen by the FT, leaving it down less than 6 per cent for the year. Lansdowne declined to comment.

Despite their strong November, UK stocks have been a poor investment relative to the US this year. The FTSE 100 is down 12 per cent in dollar terms in 2020, lagging behind the US S&P 500 index by about 25 percentage points and the Nasdaq 100 by more than 50 percentage points, as investors have picked US technology groups as some of the biggest winners of the coronavirus pandemic.

However, a recent recovery in so-called value stocks — out-of-favour stocks often found in economically sensitive industries — has benefited the UK. Sectors such as airlines, hospitality and financials soared last month on news that vaccines developed by BioNTech/Pfizer and Moderna were more than 90 per cent effective in phase 3 trials.

The mood music around the Brexit trade negotiations has soured in recent days, as both sides discussed no-deal preparations. But some hedge funds remain optimistic an agreement can be made.

“There will be a deal. All sterling sensitive assets are undervalued,” said Savvas Savouri, chief economist at London-based hedge fund firm Toscafund. He expects that to boost UK property stocks such as Land Securities and British Land.

“It’s free money without the Brexit uncertainty,” he added.

Additional reporting by Katie Martin

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