It has been a strong first half to 2025 for the UK stock market. The FTSE 100 briefly topped the symbolic 9,000 level, and the FTSE 250 has gained over 20% since its lows in early April. The rotation is welcome, but there are still areas that have been left behind amid renewed enthusiasm for UK companies.

The recent gains have come about in spite of an unexciting backdrop for the UK economy. The past few weeks have seen a grim round of economic statistics: inflation is up, economic growth is down and wage growth is slowing. In the end, the catalyst for the UK market has been simply that investors have started to look beyond the US market. The UK’s low valuations, dividend strength and defensive characteristics have made it a natural hunting ground.

Equally, while UK companies will not be thrilled with the 10% tariffs imposed by Donald Trump, it is lower than many of their international peers. It also means that they have greater visibility on earnings than companies in other countries. This may have improved the UK’s ‘safe haven’ credentials at a time when tariffs are creating significant uncertainty.

The rotation has been welcome. It is our view that we are only in the foothills of a recovery for the UK market. It has been out of favour for some time, and on most measures – price to earnings or dividend yield, for example – it compares favourably to its own history and to its international peers.

Nevertheless, there are some nuances to the UK market today that require careful navigation. There are pockets of irrationality, for example. Share prices in the defence sector, for example, have run up a long way in a very short space of time. While defence spending is rising in Europe, there is relatively little clarity on where it will fall for the time being. Markets also lack discernment in their assumptions about AI, apparently willing to pay higher and higher multiples for companies where the payoffs are not yet clear.

Equally, the UK is an international market. UK companies draw their revenues from across the globe. While the UK has secured its trade deal, UK companies may still be vulnerable to some of the repercussions from global trade disruption, and also from the disruption in global currency markets. Many of our companies are still exposed to the US: it is a vast and dynamic market, and it is difficult to find similar growth elsewhere, but we are navigating the disruption carefully.

There are also factors that have been particularly in and out of favour. Quality companies – the area on which we focus – have marginally lagged the recent rally. Value companies, in contrast, have performed extremely well. Our research shows that quality companies have lagged value companies by around 50% since the discovery of the Covid vaccine in November 2020. This has persisted into this year. While quality companies have outpaced the FTSE 100, they have trailed value companies by around 5%.

This relationship may be due for a re-set. In our view, quality characteristics should be more highly prized by investors at a time of greater uncertainty. Resilient business models should be more insulated from global trade disruption. We’re believe the valuation and growth prospects for companies in our portfolio are very encouraging today.

We are focused on companies that have clear visibility of earnings, supported by structural rather than cyclical growth. National Grid, for example, is a beneficiary of the UK’s ongoing decarbonisation drive. The ‘Great Grid Upgrade’, which will connect renewable power from its source to where it is needed and install batteries into the system, is well underway. The company is also operating under a clear and predictable government regime.

We would also highlight medical products group Convatec. Its product portfolio includes advanced wound care, ostomy care, continence care, and infusion care. It is an unglamorous business, but its products are vital for supporting quality healthcare for patients worldwide. It has a natural tailwind from an ageing population, and a growing incidence of chronic wounds, ostomies and continence problems. It also supplies infusion sets for diabetes and Parkinson’s disease management.

Prudential has a history as a blue-chip UK insurer, but its core activities are now in Asia, with a presence in all major markets in the region. It is in prime position to take advantage of the growth of the middle class across Asia. This fast-growing population is creating growing demand for life, health and savings products, from a very low base. It also has a large business in Africa.

On the Dunedin Income Growth Trust, we are finding plenty of interesting, idiosyncratic ideas for the portfolio within the UK market. There are a range of companies where the growth potential is well-established, including companies such as Genus, Genuit and Oxford Instruments. These companies are not reliant on the cycle, and not particularly vulnerable to the latest edicts from the White House.

Renewed interest in the UK market is welcome. We agree that it holds real opportunities, with interesting companies trading at low valuations. We are optimistic that the recent rally can develop some self-sustaining momentum from here as more investors recognise the value in UK companies.

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