Before the Brexit vote, the UK FTSE All-Share index had a price-to-earnings ratio (P/E) approaching 35. Today, it’s hovering around 14. And now, for the first time since 2016, JP Morgan is bullish on UK shares.
Undervalued UK shares
The P/E is a useful metric to understand if a company’s stock price is over- or undervalued. It also allows for comparisons against benchmark indexes or companies in the same sector. But it’s important to consider that sometimes shares have a low P/E for a good reason.
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UK equities have lagged a cumulative 50% and 24% against those of the US and eurozone respectively. Thus, UK shares are trading at a record discount both on a P/E and price-to-book basis. That’s according to Mislav Matejka, head of global equity strategy at JP Morgan.
Furthermore, Matejka pointed out that the UK offers the highest dividend yield of all regions. Accordingly, the research note picked out 25 UK shares JP Morgan thinks are worth buying now to capitalise on this bullish prediction. They are:
|Intermediate Capital Group|
|Lloyds Banking Group|
So would I buy any of these? Well, perhaps. I’m looking for bargains and here are the two shares with the lowest P/Es from this list. But I’d only be interested in one of them.
Centrica (LSE:CNA) is the largest supplier of gas in the UK. Its subsidiaries include British Gas and Scottish Gas. In less than a decade, the share price performance has been horrendous. Since September 2013 highs, 80% of its value has been lost.
Centrica’s P/E now stands at a measly 2.47. There’s good reason for this because it has been shedding millions of customers. Moreover, net debt of £3bn was reported last year. This forced the company to suspend the once attractive dividend.
The company looks to have turned a corner recently. Net debt reduced substantially in the last year, falling to £93m by June. Additionally, it’s in profit again. Unsurprisingly, this led to a significant uptick in the share price, rising 46% this year. The stock is likely undervalued and I’m optimistic about continued improvements. However I won’t consider investing until I see more consistency.
The Tesco (LSE:TSCO) share price is down over 6% this year but that doesn’t tell the full story. After selling its Lotus branded stores in Thailand and Malaysia, shareholders received a special dividend of 50.93p per share. As expected, the share price fell proportionately to that dividend in February.
The stock has soared 24% in six months amid strong interim results and takeover speculation. Heading into the Christmas period, there are headwinds such as staff and supply shortages. And competitor Lidl has increased hourly pay, which may force Tesco to follow suit. This would hit margins and with inflation rising, there may be limitations on passing these costs onto customers.
But Tesco is a huge retailer and I consider the stock undervalued. Its P/E is a paltry 3.3. In comparison to other mega US retailers, JP Morgan’s bullish stance on UK shares seems justified. Home Depot has a P/E above 27 and Walmart above 50. With this in mind, I would buy undervalued Tesco stock today, particularly with the 3.26% dividend as an additional benefit.