The UK equity market is set to deliver 8 per cent annualised returns over the next decade based on historical data, Woodford Investment Management says.
The fund manager says the price-to-earnings ratio at the start of a period can predict returns over the next 10 years, according to data going back to 1974.
Currently price-to-earnings are 15x, which according to the correlation suggests investors would enjoy returns over 8 per cent annually over the years ahead, says head of investment communications Mitchell Fraser-Jones.
“There is no guarantee that future data will mirror the past exactly but the relationship between starting valuation and subsequent long-term returns is a very strong one that is likely to hold,” Fraser-Jones says, adding that the next 10 years could be an outlier within the data set.
An investor who entered the stock market during the dot com bubble saw negative real returns following a P/E of 28x.
If they had invested when valuations were very low in 1974 they would have seen annualised returns of 18 per cent each year over the next decade.
While Fraser-Jones argues the UK stock market outlook “isn’t bad”, especially compared to likely returns from other asset classes, he says they remain cautious about the medium-term outlook for the global economy.
“Lacklustre growth from the global economy over the next few years may mean returns from the UK stock market from here are better in the second half of the decade than in the first half.”
Additionally, he says that there are plenty of overvalued companies around, but that the P/Es used for the analysis represent the average across the market.