UK stock market watch

This is an interesting week to trade UK equities. The election campaign is in full swing ahead of the July 4^th vote, and both parties are laying out their plans for the economy, which could have implications for UK asset prices. Added to this, the rebalancing of the FTSE 100 will take place on June 5^th, however, the index will give an indication on which companies will fall into the FTSE 250 and which will rise into the FTSE 100 later on Tuesday. Finally, this week also sees the deadline for final takeover attempts for Anglo American and Royal Mail.

1, Election update

The main news on Tuesday was Rachel Reeves, the shadow chancellor, who gave a speech on her economic plans at the Rolls Royce factory. This was a symbolic move: Rolls Royce is the best performing stock in the FTSE 100 so far this year and is higher by more than 50%. If the best performer in the FTSE 100 allows Rachel Reeves to use their factory to kick off her election campaign, then it suggests that the company is comfortable with a Labour government.

The key message from her speech is unlikely to be too market-moving, which after the debacle of the Truss/ Kwarteng budget, is probably what she wants. Reeves rules out a Budget directly after the election, this is more likely to take place in the Autumn. She confirmed three tax increases: VAT on private schools, changing the tax regime for Private Equity executives and windfall taxes on Oil company profits. She did not lay out any spending plans, bar justifying the VAT on private school fees to pay for extra teachers in the public sector.

Her mantra is ‘securenomics’ with the focus on sticking to strict fiscal rules and not promising any unfunded tax and spending plans. Reeves’ message is fairly dull, but one can assume that is exactly what Labour HQ wants. They saw what happened to Truss when she played hard and fast with the UK’s fiscal stability and Labour want to avoid that at all costs. Overall, her speech did not move the dial for UK stocks, the FTSE 100 opened the week lower. However GBP/USD is moving higher, and is close to the $1.2800 mark, which is a sign that the market is impressed with Reeves’ command of the economy, and it may also be a sign that the 120 business figures who signed a letter in the Times on Tuesday in support of a Labour government, has also boosted the prospects for the pound in the run up to this election.

Next week will see the first TV debate between Sunak and Starmer and this will also be worth watching closely.

2, FTSE 100 rebalancing

Ocado may be higher by more than 8% on Tuesday and up by 14% in the last 5 days, however, that may not be enough to save the stock from demotion to the FTSE 250. Later on Tuesday the index will give its indication of which companies will make it back into the FTSE 100 from the FTSE 250, and which FTSE 100 companies will be demoted to the FTSE 250.

Ocado and St James’ Place, the wealth management company, are expected to be demoted to the FTSE 250, even though SJP has seen its share price rise by 13% in the past month. Moving back into the FTSE 100 will be Hargreaves Lansdowne, which fell back into the FTSE 250 last year. The status of Flutter, which recently dual-listed its shares in the US, will also be determined.

The rebalancing usually has a mild impact on stock prices. The fact that Ocado and SJP have rallied into their demotions is interesting, and if they continue to recover then they may not be in the FTSE 250 for long.

3, M&A also in focus

UK regulators have set a deadline of this Wednesday for the potential buyers of Royal Mail and Anglo American, to improve their offers or to walk away from the companies. BHP Billiton has made an £39bn offer for Anglo, while Czech Billionaire, Daniel Kretinsky’s EP Group has made an offer for Royal Mail of £5bn. Unless the company being bought asks for an extension, the deals could be off the table if firm offers are not received.

It seems unlikely that BHP and EP Group will not try to boost their offers for Anglo and Royal Mail. BHP is hungry for Anglo’s copper mining capabilities, which will be needed to power the AI and EV revolutions. However, both deals could have further hurdles to climb, not just those set by the UK regulator. BHP’s purchase of Anglo American comes with the condition that Anglo disposes of its South African businesses, which may have political ramifications. Likewise, the Royal Mail deal could be impacted by the July 4^th UK election, as Labour, who are currently ahead in the polls, have pledged to protect the Royal Mail.

Anglo’s share price has risen by more than 30% this year on the back of the BHP offer, thus, if the deal does not go ahead, we could see some pullback in the share price. Alternatively, if BHP increases their offer for the firm, then we could see Anglo’s share price rally.

Royal Mail’s board said that they were minded to accept the offer and are currently still in talks with EP Group. International Distribution Services, which owns Royal Mail, has seen its share price rally to its highest level since 2022 on the back of EP Group’s offer.

There has been a flurry of M&A activity for UK stocks, which still trade a steep discount to their US counterparts, although the gap has narrowed recently, as you can see in the chart below. While more UK M&A activity could be in the pipeline, it will be interesting to get Labour’s view on whether they are comfortable with UK companies being bought by foreign rivals. If they sound uncomfortable with it, and if they maintain their lead in the polls, then we could see UK companies at risk of a takeover experience some volatility in their share prices.

Chart 1: Valuation gap UK and US stocks (FTSE 100 and S&P 500, Best P/E ratios, 5-year chart)

Source: XTB and Bloomberg