As it raised interest rates to 2.25% last week, the Bank of England has stated that the UK is heading towards — or it may even be already in — a recession. However, as a value investor with a long-term mindset, I continue to look for cheap shares of good businesses that can weather the storm.
Is the UK recession here?
Following the statement from the Bank of England, the government announced its “mini-budget” with tax cuts and more fiscal spending, sending the sterling to lows not seen since the 1970s and pushing the yields on short-term and long-term Gilts tens of basis points higher.
Such volatility in currency and fixed income markets, coupled with strong prospects of lower economic growth, are making more and more investors worry of a deep recession this Winter.
Preliminary data from the Office of National Statistics (ONS) suggests that the UK economy will contract for two consecutive quarters, thus entering into a recession. As such, for now the best I answer I can give to the above question is that we seem to be on the verge of a recession.
Three cheap shares I’d buy
During difficult economic times, the tendency is to sell risky assets, such as equities. The FTSE All Share index, as of 27 September, fell by 7.3% from its monthly peak of 4,108 and it was down by c.3% on the month. Similar bearish behaviour can be observed in the FTSE 100 index.
However, I think now is the time to look for bargains – cheap shares of good quality companies. Here are three that stand out to me.
Rolls-Royce saw its shares plunge this year by more than 40%. However, this sell-off, as it was pointed out by other Foolish writers on these pages, has not been entirely justified. I agree.
Since the Covid-19 pandemic, which was the primary factor in the bear case, Rolls-Royce saw its prospects improve. For example, its interim results suggests that the company’s primary divisions are performing very well.
Another stock that trades cheaply but which, I believe, has better prospects than its price may indicate is Lloyds Banking Group. Its shares fell in September on fears that higher interest rates will lead to bad loans as debtors find it more difficult to pay off their loans.
However, I am more optimistic, given the healthy condition of its balance sheet that has continued to improve since the crisis of 2008.
Finally, I like the outlook for Royal Mail Group. Its shares declined steadily by about 60% year to date. Its dividend yield is now close to 13.6% and it trades on a P/E ratio of 3.2. The share-price decline during September is, in my view, a clear sign that the business has been sold off with other British shares as investors exited the UK market following the above developments.
But, looking over the long term, the company remains in decent shape and the country’s postal service is unlikely to go anywhere anytime soon.
I believe these companies have a large enough moat to weather the current economic challenges and come healthier out of this storm. If this will be the case, their share prices will reflect this.