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Do UK equity valuations have further to run or are fears of a crash justified?

By Russ Mould, AJ Bell, Peter Toogood, The Adviser Centre and Laith Khalaf, Hargreaves Lansdown.

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Russ Mould is investment director at AJ Bell

Fund management legend Sir John Templeton once said “bull markets are born on pessimism, grown on scepticism, mature on optimism and die on euphoria”.

For the moment, there looks to be too little euphoria for fears of a crash to seem justified. There are few big takeover deals, no leveraged buy-out deals, the flotation market is flaccid and financial markets are not dominating the front pages (unless it is for another banking scandal).

There is also more than enough sceptical comment on issues such as Brexit, the global economy and the efficacy of monetary policy to keep markets climbing a wall of worry.

That said, no one should let their guard down because it can be argued there is a little post-referendum/pre-Brexit complacency creeping in, with the FTSE 100 Volatility index trading at just 16.8, compared to a historic average of around 20 (and lifetime range of 9 to 75).

The main long-term danger may perversely be what has been the biggest short-term boost to the market: the weak pound. If inflation starts to accelerate because of sterling’s slide then gilt yields could rise and erode the premium yield offered by the FTSE 100, eating away at what has been a key support for the stock market in the process.

Peter Toogood is investmnt director at The Adviser Centre

If ever the old adage of climbing a wall of worry applies, it has been the relief rally since the EU referendum vote. Investors globally have expressed relief about the certainty (should that read uncertainty?) over the reality of Brexit and it has been left to sterling to take the pain. It is, after all, the one thing the authorities cannot actually manipulate easily.

The investors we meet each day are very nervous regardless of their asset class. With no true price discovery and an utter absence of absolute value, equity managers in particular are left with the tortured prospect of valuing their earnings cashflows against a mythical risk-free rate.

The moral hazard in asset prices has never been higher and the places to hide so limited. Prepare for troubled times. Everything is expensive, with the added bonus in the UK that inflation is rearing its ugly head. Equity buyers beware.

Laith Khalaf is senior analyst at Hargreaves Lansdown

The FTSE 100 may be at a market high but UK equity valuations are not as stretched as that may imply. The headline P/E on the UK stock market currently stands at 19 times earnings - above its long-term average but nowhere near the frenzied excitement of the 27 times earnings witnessed in 1999.

That tells us the market is not in thrall to irrational exuberance. Indeed, if you pick up a paper or spend a few minutes on Twitter, you will not need to calculate the market P/E to see that is the case. There is a good deal of gloom and scepticism out there and that in itself means, even if sentiment does deteriorate, it does not have that far to fall.

In the short term, markets can twist and turn in either direction. But long term, investors should be reassured by the fact they are not rising into the market on a crest of a wave. Likewise, interest rates do not look like rising from rock-bottom anytime soon, so alternatives to the stock market are limited.

This bull market has been distrusted right from its inception in 2009. Those who fear a crash will eventually be proved right given enough time. The question is: what returns have they forfeited in the meantime?

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