How confident are UK companies? Our latest UK Capital Confidence Barometer (CCB) shows UK companies surveying the world, acknowledging the risks and adapting to new circumstances. Confidence in the economy and markets is still there, but companies also expect less growth to come from organic sources as they adapt to new economic patterns. So, this week we assess the latest bout of market calm in the context of the CCB survey, looking at how and where UK companies are shifting their attention.
“The dogs bark but the caravan moves on”
An old Arabic proverb that Standard & Poor’s used this week to describe European credit markets – but which could equally apply more broadly. As has been noted in numerous places elsewhere, capital markets are buoyant, equity volatility indices and other markets are becalmed. Market sentiment seems impervious to threats – of which we could list many. S&P go for: “elections, Brexit, protectionism, uncertainties around U.S. economic policy and the risk of conflict with North Korea.”
There are also still worries about China – when aren’t there – but the simultaneous lift across a number of economies provides a strong counter narrative, supported of course still by loose monetary policy. European credit markets are still being supported by ECB and Bank of England purchases. Macron’s victory in France looks set to release a flurry of Eurobond issues and private debt markets have also been strongly supportive of increased issuance.
But, even if you’re discounting event risk and the impact of Fed rate rises, there are still areas of deeper concern. S&P note overcapacity in oil & gas, capital goods, engineering and construction, and retail. Overcapacity in heavy industries is providing further impetus for protectionism. Digital disruption is rewriting the rulebook. Global growth forecasts have improved, but only after being continually pegged back. The lack of productivity growth is an enduring problem and debate – Moody’s weighed in with their 2 cents this week. There are also more esoteric issues, such as dollar availability as the Fed tightens and if US companies are provided with repatriation incentives – as highlighted recently by the IMF and BIS.
Obviously these threats are rather amorphous and hard to price in. But taken as a whole, it feels to me that markets are rather underplaying the risks. As Nomura suggests today, lack of volatility in markets could be investors trapped by indecision. I understand why investors are “still dancing” and markets remain high given the enticing tunes still being played by central banks. But, this has to break at some point, doesn’t it?
It seems uncertainty surrounding the Trump administration’s policies and French elections have resulted in cautious investor positioning and even inactivity…..Even though risk measures are at low levels, we would be hesitant about arguing this implies investor euphoria – Bilal Hafeez at Nomura
Keep calm and carry on forming alliances
Where are UK companies in all this? Still dancing, but to a different tune. Our 16th Capital Confidence Barometer (CCB16) shows that UK corporate confidence in the global economy has unsurprisingly increased in the last six months given the strong pick up in the UK’s main export markets. Confidence in the UK economy has also increased, in-line with the pick up in forecasts in the last six months. But confidence in capital markets has diminished – or more accurately diverged. CCB16 shows that confidence in UK equity valuations is improving for 25% of UK companies and diminishing for 27%, a reflection perhaps of the sterling-led ‘BREXIT delta’ that we’ve highlighted here. There’s also an acknowledgement of risks, led by currency stability, movement of labour and trade flows. Economic and political instability tops the list of boardroom topics in the UK.
So, whilst UK companies are more confident about growth overall, our survey also shows a lower percentage expecting growth to come from organic sources than six months ago. Instead, we see a much greater focus on joint ventures and alliances – more so than six months ago and more so than global peers. The main motivation for taking this route over traditional M&A is: ‘lower risk and capital investment than a full acquisition’. This suggests companies taking a more conservative approach in the face of higher risks. But, companies are also using joint ventures and alliances to look outside of their sector to access digital capabilities and grasp the opportunities provided by technological innovation and changes in customer demands and behaviour. It’s a more nuanced approach to deals that we’ll explore in greater detail next week.
So, I think we see a picture emerging of UK companies taking defensive action: thinking different deal types, cutting costs and giving a stronger allocation of resources to optimizing balance sheets than their global peers. But also, companies taking more positive action, with 51% of UK respondents signalling their intention to pursue M&A in the next 12 months – a figure broadly similar to six months ago. More UK respondents also expect to focus on smaller strategic deals of under $250m in value, which supports the idea that UK companies are focusing on making market-driven adjustments – as does the focus on deals to access new markets, new geographies, new talent and new technologies.
So are UK companies still confident? I think so and perhaps most strikingly in their ability to adapt and mitigate risks and grasp opportunity.
UK companies WLTM….
Our UK Attractiveness Survey launches later this month on 23 May, analysing the flow of foreign direct investment (FDI) projects into the UK and providing insights into international business leaders’ perceptions of and confidence in the UK as a place to invest. CCB16 shows the UK returning to the top 5 M&A destinations for global companies, but with mixed views on the impact of BREXIT on UK investment. Economic data released this week also shows a softening and the Bank of England has trimmed its GDP forecasts back again. Views on the UK could remain in the balance for some time.
Our Chief Economist Mark Gregory will be hosting a webcast to discuss our UK Attractiveness Survey 2017 on 24 May at 12.45pm. Registration <here>.