Market Review
The UK stock market enjoyed a robust end to the year, delivering a total return of 6.4% during Q4. Optimism was boosted by a further quarter point cut by the Bank of England in December, taking the base rate of interest to 3.75% in December.
Taxes were hiked in the Autumn budget, largely by stealth. The extraordinary degree of leaks surrounding what might or might not have been in the speech meant that by the time the Chancellor stepped up to deliver the Budget the market had largely discounted its contents.
Beyond the UK we saw a series of trade agreements between the USA and other nations that typically saw the US rowing back from some of the more extreme tariff proposals threatened earlier in the year. Given where sentiment toward tariffs had sunk, this constituted good news, aiding sentiment.
Within the overall market outcome there were very divergent results at the sector level. The surge in precious metal prices continued in the quarter, allowing the miners of these metals to post strong gains. At the other end of the scale, tentative signs that the conflict in Ukraine might be inching toward some sort of a resolution, took the wind out of the Defence sector. Banks benefited from the prospect of lower interest rates and continuing modest bad debt charges. The Technology sectors suffered from concerns that UK tech firms may themselves be at risk from disruption from AI.
Sterling weakened against the dollar in the early part of Q4, but reversed this as the year drew to a close little changed on the quarter. Over the year as a whole however, sterling has strengthened substantially against the dollar, by around 10% which will negatively impact the sterling value of profits earned overseas. The pound also rose, to a lesser degree against the euro and the Yen over the year.
Fund Review
The fund delivered a total return of 6.6% during the quarter, slightly ahead of the wider market. A number of our holdings continued to be impacted by fears of disruption by Artificial Intelligence. Many of these are data-rich businesses and we are of the belief that ownership of data cannot be transcended by AI technology. If the data is required to perform analysis then any technology which attempts the analysis will need to acquire the data from its owner. But one of the market’s core traits is an ability for expectations and reality to diverge for periods of time. This feels like one of those occasions to us.
Beyond those headwinds though, we benefited from our substantial holding in AstraZeneca which gained by almost a quarter. Barclays too was especially strong, alongside Rio Tinto. These and other winning positions delivered a pleasing overall result for the quarter. More commentary on these and some less successful positions follows.
01/01/2021 to 31/12/2021 | 01/01/2022 to 31/12/2022 | 01/01/2023 to 31/12/2023 | 01/01/2024 to 31/12/2024 | 01/01/2025 to 31/12/2025 | |
|---|---|---|---|---|---|
HL Select UK Income A Acc | 15.63 | -5.45 | 5.37 | 4.18 | 18.98 |
FTSE All Share TR GBP | 18.32 | 0.34 | 7.92 | 9.47 | 24.02 |
IA UK Equity Income | 18.30 | -2.18 | 7.08 | 8.66 | 18.37 |
The Winners
AstraZeneca was strong once again. The sector is benefitting from companies entering into what look like win/win deals with the Trump administration that lower prices and/or widen access to treatments for US patients whilst also seeing companies pledge to invest billions of dollars Stateside. AstraZeneca is no exception, and having reassured the market that it has a renewed mandate to grow in the US the stock has picked up support. In their Q3 results they reassured investors that they can manage the cost of staying on the right side of the new US administration.
Barclays benefited from a robust Q3 earnings report and an accelerated buyback of stock. We think the valuation remains attractive versus peers too. The Budget proved supportive for the sector; no new levies were imposed on the UK banking sector for once. The Bank of England gave Barclays a good assessment in its most recent stress testing exercise too.
HSBC and Lloyds Banking Group similarly benefited from the lack of new Budget levies. During the quarter HSBC also announced a move to fully own their Hang Seng Bank subsidiary in Hong Kong. This further tilts HSBC’s exposure toward Asia and China in particular. Lloyds has been reporting strong underlying profitability, although this has been held back in part by the need to set aside provisions for possible Motor Finance redress. They have also moved to take full control of their former Wealth Management joint venture with Schroders, increasing their exposure to more affluent clients as a result.
Chinese demand for metals and minerals looks to be holding up well with a positive outlook for iron and copper demand. That helped Rio Tinto chalk up a strong quarter, for the company is one of the world’s leading producers of both.
The chart highlights the five strongest contributors to performance this quarter. Hover over each bar for more detail.
The Losers
As we alluded to earlier, data-owning businesses are seeing their shares coming under pressure due to fears over AI-related disruption. We consider that Relx and Experian fall into this category. Given we doubt any AI model that simply makes up the data is likely to succeed, we are happy to maintain our exposures to what we think remain compelling long term growth stories.
BAE Systems came under pressure after investors started to speculate on a truce in Ukraine. Such an outcome may well lead to fewer “energetics” (as the industry likes to describe things that explode) but it is most unlikely to lead to European nations looking to reverse moves to increase their overall spending on defence capabilities, of which energetics are only a small part.
3i Group spooked the market when it revealed weaker trading in the French stores of Action, its European value retail investee company. Action is by far 3i’ largest portfolio holding, but we are surprised that news of weaker trading in France came as a surprise. French politics look more like UK politics post-Brexit these days, with new Prime Ministers coming and going frequently whilst problems remain unsolved. The longer-term case for Action remains most attractive in our eyes.
Compass Group had a tough quarter and once again AI seems to have been the root cause, for the company reported strong full year results during the quarter. The bear thesis is that AI destroys jobs at the firms where Compass provides catering services. This may well happen in some instances, but ignores the possibility that AI will also create jobs, as witnesses in the US construction industry where an AI Datacenter boom is creating huge amounts of economic activity for real people.
The chart highlights the five weakest contributors to performance this quarter. Hover over each bar for more detail.
Portfolio Activity
During the quarter we added to our exposure to UK banks where earnings momentum remains strong and valuations attractive. We also added further to our position in Rolls Royce. With growing evidence that a future glut in oil supplies is building we trimmed our Energy sector exposure. As part of that reduction we switched our investment in BP into Shell where we already had a position. We view Shell as being less sensitive to the oil price due to its broader spread of assets and strengths in Liquefied Natural Gas.
We exited from Croda where visibility over when trading will pick up seems to be no clearer, yet without a recovery the stock looks vulnerable to further de-rating.
A new holding is Convatec, a leading player in the global markets for Ostomy, Continence and Wound Care. The former two categories in particular are positively exposed to the needs of aging populations, offering long term growth drivers for the group.
The Outlook
Economic data here and abroad is somewhat mixed. Inflation is cooling, but not sufficiently to accelerate Central Banks’ desire to lower rates. Employment levels remain generally solid and whilst vacancy rates may have fallen, they are not at levels that might suggest imminent economic slowdown.
The UK economy has continued to grow, albeit rather anaemically. Indeed, the Government’s key challenge is to encourage a stronger growth rate. However their need to raise taxation is a real hindrance to this effect. The Autumn budget saw a further large increase in taxes falling upon citizens, largely by stealth, through freezing allowances yet further. We have seen estimates suggesting around one in five taxpayers will be paying the higher rate of tax by the end of this parliament. According to the Institute for Fiscal Studies, only 3.5% of taxpayers were paying the higher rate back in 1991/92.
Sterling’s strength in 2025 will impact on results to be reported in the coming weeks and its continuing strength will also pose an ongoing headwind to UK Plc in 2026. Exporters may need to cut their margins to maintain competitiveness overseas, even on top of the impact of tariffs imposed by the USA. The translation of overseas earnings will also be impacted, unless sterling weakens through the year ahead.
UK politics seems unlikely to play the Fairy Godmother to investors anytime soon. Government finances are stretched, but the gilt market continues to function normally suggesting this should not be investors’ number one concern.
AI has pushed up the valuation of major US technology stocks. Some are citing this as a bubble, yet if companies like Nvidia succeed in meeting market expectations their valuations will rapidly look undemanding.
Precious metal markets had an extraordinary year. At current elevated levels, buying demand, especially for Gold, the dominant member of the pack, must remain firm to support these price levels. Above all, inflation must remain subdued to allow the Bank of England and other central banks to deliver the rate cuts expected during 2026.
Markets are not without risk then, but on balance economies are growing, inflation is largely under control and rates are declining, albeit slowly. Bull markets they say, must climb a mountain of worry. That seems particularly apt for 2026, but barring deterioration in the metrics discussed, we see potential for further positive returns in the year ahead.
This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information. Unless otherwise stated performance figures are from Bloomberg and estimates, including prospective yields, are a consensus of analyst forecasts from Bloomberg. They are not a reliable indicator of future performance. Yields are variable and not guaranteed.