Many experts appear to agree that UK stocks are significantly undervalued. Goldman Sachs says domestic equites currently trade at a 52% discount to their US peers.
JP Morgan suggests they’re 40% cheaper than developed market rivals.
But it’s not just bankers who seem to think that British stocks and shares are a bargain at the moment. Analysts at UBS say they’re “abnormally cheap”.
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Are they right?
One way of assessing value for money is to use a measure devised by Warren Buffett, the American billionaire investor.
In simple terms, the ‘Buffett Indicator’ is an economy-wide price-to-earnings (P/E) ratio. Usually expressed as a percentage, it’s calculated by dividing the market cap (price) of a particular stock market by a country’s Gross Domestic Product (earnings).
With a value of 203.7% — close to its all-time high of November — it currently suggests that US stocks are heavily overvalued.
This could mean savvy investors look elsewhere. They might turn to the UK (106.9%), where equites appear to offer better value.
Will they?
But I think it’s necessary to proceed with caution.
The indicator attracts a number of criticisms, one of which is that it doesn’t properly reflect overseas sales. Stock market valuations are based on global revenues whereas a country’s GDP reflects only exports from its shores.
However, the biggest reason to tread carefully is that Warren Buffett doesn’t appear to pay much attention to it. Historically, Berkshire Hathaway, his investment vehicle, has retained major shareholdings in US companies irrespective of how the indicator has changed.
Yes, Berkshire Hathaway has been stockpiling cash over the past couple of years. At 30 September, the company had $325bn on its balance sheet (in 30 September 2022 it was $105bn). But Buffett’s hinted this is for tax reasons rather than because he feels equities are overvalued.
In 2025, I suspect the biggest impact on UK stocks could come from the second Trump presidency.
If his threat to impose tariffs is carried through there could be a massive global economic shock. In these circumstances, there wouldn’t be any winners. Of course, Trump knows this. Therefore, I suspect he’s unlikely to significantly widen the scope of import taxes.
A possible winner?
One UK stock I’ve been keeping my eye on for 2025 is BAE Systems (LSE:BA.).
That’s because its share price has fallen 10% over the past month.
This means its forward P/E ratio has dropped to 17, down from 20.5 in mid-November. This could be an attractive entry point for me, especially as we sadly live in an increasingly unstable world that should benefit the group.
Recent reports claim that Trump wants NATO members to increase their defence spending to 5% of GDP. The UK currently spends 2.3%.
But this could be a double-edged sword for BAE Systems.
For the first half of 2024, some 25.7% of its revenue was derived from the UK and 48% from the US. Trump wants NATO to spend more so that America can spend less. Indeed, the incoming president has asked Elon Musk to help reduce federal expenditure.
For this reason, I suspect more UK-focused defence companies, like Babcock International, could do better from Trump 2.0.
I’m therefore not going to invest in BAE Systems at the moment, despite the recent pullback in its share price. But I shall continue to watch the sector with interest.
