UK's Economic Turbulence: Finding Opportunities Amid Crisis

09:00 | 1 септември 2023
Обновен: 11:08 | 11 септември 2023
Снимка: Bloomberg LP
Снимка: Bloomberg LP


by Ivaylo Chaushev

The economy of the United Kingdom is currently undergoing turbulent times as the nation's inflation rate remains alarmingly high and, despite showing some signs of slowing down. Stripping out the energy cap's effect, UK inflation has persistently hovered around 10% since July of the previous year, a level that vastly surpasses inflation rates across the rest of Europe and doubles that of the United States. The strategies implemented to combat inflation are inevitably going to impact the economy, housing market, and consumers adversely. However, within this challenging landscape, there may emerge some intriguing opportunities for the ones willing to take the risk.

It's worth noting that the UK's current economic challenges have their roots in several local factors: the handling of Brexit, the substantial amounts of money printing, and the constant shift in policy due to the government's internal politics. Notably, these have all contributed to a significant volatility in the value of the pound, resulting in a diminished global confidence in the UK economy.

What's more alarming is that this inflation crisis has hit the average UK citizen severely. As inflation has been averaging above 10%, wages have increased by 7.1% over the past 12 months. This imbalance means that, in real terms, UK workers are taking home less money each month. In turn, this stretches household budgets, impacting the affordability of everyday necessities like food and electricity. However, these numbers also raise the perspective of a wage-price spiral, where rising wages lead to increased production costs, causing businesses to raise their prices, which in turn leads to demands for higher wages, thus creating a continual upward cycle.In the inflation data released recently, a minor respite was noted as food inflation is trending down. However, it's important to note that food prices at the same time last year were more than 17% lower.

An already challenging situation is further exacerbated by the Bank of England's recent decision to increase interest rates to over 5%. This move, taken in response to the spiralling inflation, is seen as a desperate measure by an institution grappling for solutions to the country's escalating economic problems. In this environment, The Bank’s and UK government's decision in managing inflation and the broader economy is under intense scrutiny with UK interest rates predicted to rise to 6-6.5%.

A closer look at UK housing finance reveals that mortgages typically come with short-term fixed periods of between 2 and 5 years. Many of these mortgages were taken out at extremely low rates, around 1.5%, thanks to the Bank of England's decision to keep rates low after the 2008 financial crash.As these fixed-rate periods end, homeowners face the daunting prospect of their monthly payments skyrocketing by 60 to 70% if they can secure a new fixed-term mortgage. If they fail the affordability checks, they could end up paying even more on the standard bank rate, possibly 80 to 90% more.

The aftershock of this situation will resonate beyond the mortgage market. Landlords, facing the same spike in repayments, will be forced to increase rental prices or absorb substantial losses. This impending wave of increased housing costs is uniquely troubling for the UK, as in contrast to the U.S. market, for example, it does not offer long-term fixed rates on mortgages, which cushion the blow of sudden interest rate increases.

Peering further into the future, the refinancing of mortgage rates could triger a reset, which would cascade into a further financial strain for UK households, already burdened with increased costs for necessities like food and electricity.

Meanwhile, the government has not communicated any plans for government intervention. Critics argue that this inaction stems from a lack of experience and understanding of the economic landscape. Specifically, current Chancellor Jeremy Hunt has been criticised for his lack of finance experience, leading many to question his ability to manage the country's finances during this crisis.

Despite the economic challenges facing the UK, it's important to remember that turbulence in the economy also presents unique opportunities. There are companies that not only offer robust dividend yields, but also operate in sectors that are resilient to the current interest rate environment, making them worthy of consideration.

Vodafone Group PLC: As a global telecommunications giant, the sector it operates in is often seen as resistant to high interest rates because it provides essential services that people continue to use regardless of the economic climate. As a result, its revenues can remain relatively stable even in periods of higher interest rates. Moreover, the firm's average dividend yield over the previous four years has slightly exceeded 6%.

National Grid PLC: Utility companies like National Grid often have a steady demand for their services, as consumers and businesses continue to need electricity and gas regardless of the economic conditions. This consistent demand, along with regulated pricing in many markets, allows utility companies to maintain steady cash flows and dividends even when interest rates rise. The business's average dividend yield has hovered a bit over 5% for the last four years.

GSK PLC: The pharmaceutical industry is generally considered resistant to economic downturns and high interest rates because the demand for healthcare and medications remains relatively stable, regardless of the economic climate. Furthermore, many of GSK's products are patented, providing a degree of pricing power that can help offset inflationary pressures. Тhe average dividend yield of the company for the preceding four years has been just over 5%.

IG Group Holdings PLC: As a global player in the online trading business, IG Group could benefit from increased market volatility in a high-interest rate environment. More market activity typically means more trading volume, which could boost revenues. Additionally, their business model of offering over-the-counter (OTC) leveraged derivatives allows traders to speculate on asset price changes without owning the asset, potentially creating more trading activity and revenue during periods of economic uncertainty. For the past four years, the corporation has maintained an average dividend yield of 5.76%

While the broader picture might appear gloomy, the British financial market still might present opportunities. This is particularly true for sectors that are largely resistant to fluctuations in interest rates and offer enticing dividend yields. In the spirit of Warren Buffett's advice to "Be greedy when others are fearful".