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UK 'Yield gap' widest since WW2
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- Lemon Quarter
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UK 'Yield gap' widest since WW2
I've seen mention of the UK yield-gap a few times recently, and how this points towards the FTSE being historically undervalued. Since we're within 100 points of an all-time record on the index it might not feel undervalued, so my curiosity was piqued.
Excerpt dd. 30/April:
'Yield appeal: stocks’ gap over gilts widest since WW2
Saracen fund manager Scott McKenzie lured by yield gap between UK stocks and gilts that has reached the highest level since the Second World War.
Saracen fund manager Scott McKenzie has hailed the 'increasing compelling' opportunity in UK dividend stocks, as the yield gap with gilts stretches to its highest level since the Second World War.
McKenzie, manager of the Saracen UK Income fund, said income stocks were now being priced 'extremely favourably compared to gilts'. 'We have seen an exceptional period for growth investing in recent years and we are now seeing some significant value opportunities emerging in certain parts of the UK stock market,' he said. 'There has never been a bigger yield gap between the two asset classes since the Second World War. Taken together, there is now an excellent opportunity for value investors in the UK to acquire undervalued shares with an attractive income stream.'
He highlighted the 246 basis points gap between the yield on the FTSE All-Share and 10-year gilts in his first quarter update to investors. That gap has now been trimmed slightly to 234 basis points after a strong month for the UK stock market, with the FTSE All-Share yielding 3.78% and 10-year gilts 1.44%. Uncertainty created by the UK’s planned departure from the European Union next year has weighed on UK shares. However, McKenzie believes that Brexit fears may prove to be overdone. ‘Whilst investors seem to have taken a clear negative view on Brexit outcomes, these are by no means certain at this stage and the recovery of sterling in the past year suggests that currency markets are more sanguine,’ the fund manager added.
http://citywire.co.uk/money/yield-appea ... 2/a1114717
This from today's Telegraph, excerpt:
'British shares have only been cheaper in the world wars'
'The only times British shares have been cheaper than they are now was during the two world wars, as global investors have withdrawn from the UK in droves, according to new analysis. The unpopularity of British shares has driven prices down and dividend yields up. The FTSE All Share index has gone nowhere this year and now yields close to 4pc. The gap between the dividend yield from the FTSE All Share and the yield available from 10-year government bonds (gilts) – known as the “yield gap” – is a popular valuation metric. A small gap or negative figure (when gilts yield more than shares) may indicate that the stock market is overvalued, as investors are not being adequately compensated with dividends for the additional risk they are taking by investing in shares. '
Re-checking the above yields:
Taking the recent yield on the FTSE-100 [google: FTSE Russell FTSE 100 Factsheet], the latest version dd 30/4/18 gives a div yield of 3.91%.
The UK 10 year Gilt is @ 1.44% https://www.marketwatch.com/investing/b ... trycode=bx
Ie. the yield gap this week is around 2.47%
I looked at the FTSE100 rather than the FT All Share, as most of my portfolio is invested in the former. The main reason the current gap interests me is that I'm approaching early retirement and 'traditionally' it would be around this time that I would look to begin de-risking my portfolio by for example progressively reducing exposure to shares, and shifting assets into bonds. For example that is the rationale behind the likes of the 'Vanguard LifeStrategy funds', and was similarly mirrored as a core tenet of thinking/advice in asset allocation from back when I worked in private client banking in the 90s. It's ironic that having kept the idea of this future required re-allocation in mind, now that I'm approaching that kind of stage it seems this might be almost precisely the wrong time to begin it. At first glance the likes of Vanguard appear to apply the approach in a rather mechanistic way vs age, without consideration of the relative valuations as highlighted by the yield gap. (If that's so perhaps the progressive reallocation strategy spanning say 20+ years means they assume point-in-time gap considerations as transient.)
Just thinking aloud as I went on there The two things that seem reasonably clear though are that in global terms the FTSE is relatively undervalued, and, that this might be just about the worst time since WW2 to be re-allocating from stocks into bonds.
And if your retirement portfolio were restricted to just stocks and bonds, keeping a weather-eye in future on when the yield gap is historically narrow could be used as a cue for stock>bond reallocation. DAK is there is an instrument that mirrors the UK gap? Or do you just take the 10yr Gilt yield and chart if vs the yield of the UK stock index of your applicable choice?
Excerpt dd. 30/April:
'Yield appeal: stocks’ gap over gilts widest since WW2
Saracen fund manager Scott McKenzie lured by yield gap between UK stocks and gilts that has reached the highest level since the Second World War.
Saracen fund manager Scott McKenzie has hailed the 'increasing compelling' opportunity in UK dividend stocks, as the yield gap with gilts stretches to its highest level since the Second World War.
McKenzie, manager of the Saracen UK Income fund, said income stocks were now being priced 'extremely favourably compared to gilts'. 'We have seen an exceptional period for growth investing in recent years and we are now seeing some significant value opportunities emerging in certain parts of the UK stock market,' he said. 'There has never been a bigger yield gap between the two asset classes since the Second World War. Taken together, there is now an excellent opportunity for value investors in the UK to acquire undervalued shares with an attractive income stream.'
He highlighted the 246 basis points gap between the yield on the FTSE All-Share and 10-year gilts in his first quarter update to investors. That gap has now been trimmed slightly to 234 basis points after a strong month for the UK stock market, with the FTSE All-Share yielding 3.78% and 10-year gilts 1.44%. Uncertainty created by the UK’s planned departure from the European Union next year has weighed on UK shares. However, McKenzie believes that Brexit fears may prove to be overdone. ‘Whilst investors seem to have taken a clear negative view on Brexit outcomes, these are by no means certain at this stage and the recovery of sterling in the past year suggests that currency markets are more sanguine,’ the fund manager added.
http://citywire.co.uk/money/yield-appea ... 2/a1114717
This from today's Telegraph, excerpt:
'British shares have only been cheaper in the world wars'
'The only times British shares have been cheaper than they are now was during the two world wars, as global investors have withdrawn from the UK in droves, according to new analysis. The unpopularity of British shares has driven prices down and dividend yields up. The FTSE All Share index has gone nowhere this year and now yields close to 4pc. The gap between the dividend yield from the FTSE All Share and the yield available from 10-year government bonds (gilts) – known as the “yield gap” – is a popular valuation metric. A small gap or negative figure (when gilts yield more than shares) may indicate that the stock market is overvalued, as investors are not being adequately compensated with dividends for the additional risk they are taking by investing in shares. '
Re-checking the above yields:
Taking the recent yield on the FTSE-100 [google: FTSE Russell FTSE 100 Factsheet], the latest version dd 30/4/18 gives a div yield of 3.91%.
The UK 10 year Gilt is @ 1.44% https://www.marketwatch.com/investing/b ... trycode=bx
Ie. the yield gap this week is around 2.47%
I looked at the FTSE100 rather than the FT All Share, as most of my portfolio is invested in the former. The main reason the current gap interests me is that I'm approaching early retirement and 'traditionally' it would be around this time that I would look to begin de-risking my portfolio by for example progressively reducing exposure to shares, and shifting assets into bonds. For example that is the rationale behind the likes of the 'Vanguard LifeStrategy funds', and was similarly mirrored as a core tenet of thinking/advice in asset allocation from back when I worked in private client banking in the 90s. It's ironic that having kept the idea of this future required re-allocation in mind, now that I'm approaching that kind of stage it seems this might be almost precisely the wrong time to begin it. At first glance the likes of Vanguard appear to apply the approach in a rather mechanistic way vs age, without consideration of the relative valuations as highlighted by the yield gap. (If that's so perhaps the progressive reallocation strategy spanning say 20+ years means they assume point-in-time gap considerations as transient.)
Just thinking aloud as I went on there The two things that seem reasonably clear though are that in global terms the FTSE is relatively undervalued, and, that this might be just about the worst time since WW2 to be re-allocating from stocks into bonds.
And if your retirement portfolio were restricted to just stocks and bonds, keeping a weather-eye in future on when the yield gap is historically narrow could be used as a cue for stock>bond reallocation. DAK is there is an instrument that mirrors the UK gap? Or do you just take the 10yr Gilt yield and chart if vs the yield of the UK stock index of your applicable choice?
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- Lemon Half
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Re: UK 'Yield gap' widest since WW2
DiamondEcho wrote:And if your retirement portfolio were restricted to just stocks and bonds, keeping a weather-eye in future on when the yield gap is historically narrow could be used as a cue for stock>bond reallocation.
For much of my lifetime, there was a reverse yield gap where the yield on Gilts exceeded the dividend yield. The reason for this being an expectation that dividends would increase with price inflation but that fixed gilts quite obviously wouldn't.
With Governments demanding that inflation be intrinsic to financial systems, isn't a better comparison between the yield on Index Linked stocks and equities?
If you look at international flows of funds, these are surely influenced by currency movements and expectations, so if the UK market looks cheap in sterling terms, how does it look in terms of dollars or Euros.
It's QE that's reduced fixed interest returns, with these at around 1% for shorter dated, there's motivation to seek riskier assets to get any sort of return at all.
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Re: UK 'Yield gap' widest since WW2
Shares can be high yield because they are good value.
Or they can be high yield because they are high risk.
I bought shell on a high yield when oil prices were weak, and made a ton on the price and enjoyed the dividends. I bought Tesco a few years ago on a high yield and lost a packet, and no dividends for some time.
Or they can be high yield because they are high risk.
I bought shell on a high yield when oil prices were weak, and made a ton on the price and enjoyed the dividends. I bought Tesco a few years ago on a high yield and lost a packet, and no dividends for some time.
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Re: UK 'Yield gap' widest since WW2
toofast2live wrote:Shares can be high yield because they are good value.
Or they can be high yield because they are high risk.
Or because they are neither but the market expects the bulk of the total return from them to come from dividends rather than capital gain.
The trick is figuring out which
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Re: UK 'Yield gap' widest since WW2
mc2fool wrote:toofast2live wrote:Or they can be high yield because they are high risk.
Or because they are neither but the market expects the bulk of the total return from them to come from dividends rather than capital gain.
Same thing, surely. If there is a high risk of a zero or negative capital performance then all that is left is that yield.
Of course if the dividend goes as well because of the risk . .
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- Lemon Slice
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Re: UK 'Yield gap' widest since WW2
My own impression is that the stock market might be slightly expensive, but bonds definitely are expensive.
I don't have to make that decision yet, but I think I'd prefer a portfolio of well capitalised dividend paying companies than bonds.
I always think John Kingham has an interesting way of looking at market valuations:
https://www.ukvalueinvestor.com/2018/03 ... rket.html/
He also does a yearly 'prediction' of where the index will end up, although he makes it clear that he isn't predicting, merely calculating where they might be using historical precedent and earnings figures etc.
I don't have to make that decision yet, but I think I'd prefer a portfolio of well capitalised dividend paying companies than bonds.
I always think John Kingham has an interesting way of looking at market valuations:
https://www.ukvalueinvestor.com/2018/03 ... rket.html/
He also does a yearly 'prediction' of where the index will end up, although he makes it clear that he isn't predicting, merely calculating where they might be using historical precedent and earnings figures etc.
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Re: UK 'Yield gap' widest since WW2
Lootman wrote:mc2fool wrote:toofast2live wrote:Or they can be high yield because they are high risk.
Or because they are neither but the market expects the bulk of the total return from them to come from dividends rather than capital gain.
Same thing, surely. If there is a high risk of a zero or negative capital performance then all that is left is that yield.
No, I guess I wasn't clear what I meant. I wasn't referring to companies where it is feared (there is a risk) there might be no/low capital growth, but to ones where it's normal because of the nature of the business, a cash-cow but no/low growth business in a saturated market.
"Boring" traditional utilities used to be like that; although nowadays utilities seem to seek to be "exciting" by expanding into new areas of business, new markets, new countries, etc, etc....
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Re: UK 'Yield gap' widest since WW2
Do Gilts exhibit the same behaviour with reference to UK shares as T-bills do with US shares?
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TJH
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Re: UK 'Yield gap' widest since WW2
House prices are often expressed as a multiple of average wage to gauge their relative cost. Is there anything similar for equities?
E.g. a FTSE 100 / GDP per capita type ratio. Just wondering if it would have any meaning, and if so, what would it show?
E.g. a FTSE 100 / GDP per capita type ratio. Just wondering if it would have any meaning, and if so, what would it show?
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Re: UK 'Yield gap' widest since WW2
You might find some relevance in the ratio between company earnings and GDP..
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Re: UK 'Yield gap' widest since WW2
vrdiver wrote:House prices are often expressed as a multiple of average wage to gauge their relative cost. Is there anything similar for equities?
E.g. a FTSE 100 / GDP per capita type ratio. Just wondering if it would have any meaning, and if so, what would it show?
I don’t know if there is a measure n the uk but in the USA, Warren Buffet uses it as a yardstick. More here
https://www.advisorperspectives.com/dsh ... -indicator
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Re: UK 'Yield gap' widest since WW2
This data source looks ok to me:-
https://www.gurufocus.com/global-market ... ountry=GBR
U.K. Market Cap to U.K. GDP ratio is roughly middle of the historic range. This is in line with most other measures of value.
https://www.gurufocus.com/global-market ... ountry=GBR
U.K. Market Cap to U.K. GDP ratio is roughly middle of the historic range. This is in line with most other measures of value.
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Re: UK 'Yield gap' widest since WW2
vrdiver wrote: a FTSE 100 / GDP per capita type ratio. Just wondering if it would have any meaning, and if so, what would it show?
77% of FTSE100 earnings come from abroad. link
And I would be willing to bet a similar proportion of UK GDP comes from foreign firms.
So there's relatively little overlap between FTSE100 and UK GDP. And complicated even further by currency movements. A small shift in sterling is going to hugely impact the FTSE100/UKGDP ratio. So much so that I can't really see the ratio being much use. Which is probably why it isn't widely used.
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Re: UK 'Yield gap' widest since WW2
gryffron wrote:
So there's relatively little overlap between FTSE100 and UK GDP. And complicated even further by currency movements. A small shift in sterling is going to hugely impact the FTSE100/UKGDP ratio. So much so that I can't really see the ratio being much use. Which is probably why it isn't widely used.
Gryff
If UK GDP and UK market cap are both given in sterling, which they usually are, then shifts in sterling will have no effect.
Economic growth (growth in GDP) is the principle driver of equities because company earnings are, taken as a whole, a leveraged play on growth.
I suspect the reason market cap/GDP isn't widely used has more to do with it not being as instantly understandable a sound bite as more widely used measures such as yield, P/E etc. But that doesn't make it any less relevant IMO.
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Re: UK 'Yield gap' widest since WW2
Bubblesofearth wrote:If UK GDP and UK market cap are both given in sterling, which they usually are, then shifts in sterling will have no effect.
Disagree. I think it will have a big effect. Probably > than the currency movement. Suppose sterling falls:
All those foreign earnings for British companies are directly related to the sterling they are reported in. So any reduction in sterling will quickly see a commensurate rise in FTSE earnings quoted in sterling (and thus shareprices). The effect is large (77%), direct and immediate. We saw this effect clearly in FY17-8 when sterling dipped after the brexit vote then climbed back up. The FTSE went up and back down almost in line with the shift in sterling.
UKGDP is only slightly affected, and over a much longer period. Imported goods gradually get a bit more expensive, so you get inflation and people have less to spend on British goods. A fall in sterling leads to a reduction in GDP. But the effect is quite slow (several years) and small (because we import 30%)
So sterling affects both halves of the FTSE/GDP ratio. Falling sterling will increase the numerator and decrease the denominator. So both effects push the ratio in the same direction. Hence changing sterling has a > proportional effect on this ratio.
Bubblesofearth wrote:Economic growth (growth in GDP) is the principle driver of equities
Yes, but not necessarily British GDP. Because such a large proportion of economic activity is carried out by firms not quoted in the same country where they carry out their activities.
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Re: UK 'Yield gap' widest since WW2
Ok so the stat, if anyon e could be bothered to compute it would be global GDP and FTSE100 cap.
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Re: UK 'Yield gap' widest since WW2
gryffron wrote:All those foreign earnings for British companies are directly related to the sterling they are reported in. So any reduction in sterling will quickly see a commensurate rise in FTSE earnings quoted in sterling (and thus shareprices). The effect is large (77%), direct and immediate. We saw this effect clearly in FY17-8 when sterling dipped after the brexit vote then climbed back up. The FTSE went up and back down almost in line with the shift in sterling.
Agreed (and with the rest). When I'm reading the daily technical forecasts for the FTSE-100 a regular thing noted to watch is Sterling strength versus the major currencies in which the FTSE-100 constituents are earning revenue. I don't know how to make an arrow sign here within text, but the shorthand on my daily notes is '£[arrow up]/FTSE100[arrow down]. So each time there is some cage-rattling from the BoE over the next likely rate rise the FTSE is bound to suffer as a result. And given how moribund the rEU is, the likelihood of them raising rates in the foreseeable might as well be nil. Part of the reason why the likes of Vodafone [results out this morning] is getting something of a spanking of late, is because it reports revenues, announces divs, etc in Euro.
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Re: UK 'Yield gap' widest since WW2
gryffron wrote:Bubblesofearth wrote:If UK GDP and UK market cap are both given in sterling, which they usually are, then shifts in sterling will have no effect.
Disagree. I think it will have a big effect. Probably > than the currency movement. Suppose sterling falls:
All those foreign earnings for British companies are directly related to the sterling they are reported in. So any reduction in sterling will quickly see a commensurate rise in FTSE earnings quoted in sterling (and thus shareprices). The effect is large (77%), direct and immediate. We saw this effect clearly in FY17-8 when sterling dipped after the brexit vote then climbed back up. The FTSE went up and back down almost in line with the shift in sterling.
UKGDP is only slightly affected, and over a much longer period. Imported goods gradually get a bit more expensive, so you get inflation and people have less to spend on British goods. A fall in sterling leads to a reduction in GDP. But the effect is quite slow (several years) and small (because we import 30%)
So sterling affects both halves of the FTSE/GDP ratio. Falling sterling will increase the numerator and decrease the denominator. So both effects push the ratio in the same direction. Hence changing sterling has a > proportional effect on this ratio.Bubblesofearth wrote:Economic growth (growth in GDP) is the principle driver of equities
Yes, but not necessarily British GDP. Because such a large proportion of economic activity is carried out by firms not quoted in the same country where they carry out their activities.
Gryff
OK, being pedantic I was talking about there being no direct effect because both are measured in sterling. You are talking about indirect effects, i.e. from the consequences of a change in sterling. In which case, yes, there will be both short-term and long-term effects. But it's too simplistic to say that these effects are all positive for the cap/gdp ratio. Economics involves a lot of feedback loops. The same effects that depress real gdp, e.g. via inflation, will boost it through improved competitiveness and re-balancing of trade.
Market Cap/GDP remains IMO an interesting graph;
https://fred.stlouisfed.org/series/DDDM01GBA156NWDB
My personal feeling is that these sort of ratios are more useful identifying extremes in the market rather than predicting short-term moves. We do not currently appear to be at such an extreme in the UK. The US is a slightly different story (even more so given the Trump rise);
https://fred.stlouisfed.org/series/DDDM ... categories
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