How to gain exposure to the rising stock market

As the global equities rally continues, there is plenty of time to capitalise on new investment opportunities

THE stock market has risen at a groundbreaking speed this year – the FTSE 100 is close to its 1999 peak of 6,950.60, the S&P 500 and Germany’s Dax are reaching all-time highs, and even France’s CAC-40 rose by 0.3 per cent last week.

The upwards swing across global indices may not be enough to turn investors towards equities in swathes – particularly those concerned that, in points, the FTSE 100 has gained nothing over the past 12 years. But Adrian Lowcock of Hargreaves Lansdown points out that, from May 2003 to May 2013, while the FTSE All Share Index has grown by 79.2 per cent, with dividends reinvested, the total gain would be 153.9 per cent. “When invested in companies, you can make money even in a high market,” he says.

And a high index won’t necessarily mean its individual constituents are expensive. Jason Hollands of BestInvest believes the rise in the FTSE 100 represents how companies have grown their businesses significantly, and is not just an asset bubble. “Company profits have grown much more rapidly than share prices over a number of years, so the rally since last summer is a case of the markets playing catch up,” he says. And UK shares are still trading below their long-term average.

Experts are divided over whether a market correction is imminent, with many concerned that the fundamentals don’t support such a sustained rally. The driving force behind the surge has largely been aggressive stimulus packages implemented by central banks, fluffing up market highs. But the appetite for equities looks set to increase, as they are currently offering higher returns than their counterparts.

UK dividends are attractive compared to bond yields, which are not paying a high enough return to help investors even beat inflation (currently 2.4 per cent on the consumer price index and 2.9 per cent on the retail price index). And Hollands thinks earnings will pick up as the global economy continues to gradually improve. Despite the EU entering its sixth quarter of recession – with France joining those countries in recession – and unemployment in the US sitting comfortably above Federal Reserve chairman Ben Bernanke’s 6.5 per cent target, consumer sentiment in the US is at its highest point since September 2007.

Chelsea Financial Services has seen investor enthusiasm to match. “Investors are keen on equities, and not just since the FTSE 100 peaked on Monday. And the run can continue – albeit with valuations becoming increasingly expensive,” says its managing director Darius McDermott. But as company profits continue to grow, so too will share prices, making opportunities harder to find. Already, investors are paying a premium on the US equity market – widely viewed as a less risky investment and more attractive in the longer term. So where should investors be looking?

Over the past few months, the trend has seen investors favour defensive sectors, like telecoms, over cyclical and high risk sectors, like industrials or banks. But there has been a reversal of late. Technology continues to perform well in the rally, and Lowcock points out that financials are now rebounding after being heavily hit last year during the Eurozone crisis. Commodities, basic materials, mining and gas have all lagged behind the market rally.

Beyond our shores, most experts point to Japan, where the authorities are enacting a huge monetary and fiscal stimulus package to kick-start the economy and to try to achieve a target of 2 per cent inflation. These measures hope to end a debilitating period of deflation. Certainly, this is not without risk, but many experts are feeling bullish on Japan, with McDermott listing GLG Japan Core Alpha, up 50.7 per cent in the last year, as one of his favourite funds.

There are three main avenues open to investors wanting exposure to the global equities rally: individual shares, a passively managed or tracker fund, or an actively-managed fund. Buying individual shares could enable investors to outperform the broader market, but “most people will find they simply don’t have the time, or lack the expertise, to research companies at the same levels as a fund manager. And getting it wrong could incur huge losses,” says McDermott.

The obvious – and cheapest – option is to use a tracker or passive vehicle, that will track the market while charging a small fee. But if you match the market, that small fee will still mean you could under-perform relatively. And trackers are only as good as the indices they track. Hollands warns they won’t give you meaningful exposure to other parts of the investment universe, like smaller companies.

As such, an actively-managed fund may be the best option. Adrian Lowcock thinks that funds in the UK with exposure to those smaller companies are a good option, as these corporates have performed well in the rally. He likes the Old Mutual Select Smaller Companies fund, up 23 per cent in the past six months. If it’s US exposure you’re after, McDermott likes the Axa Framlington American Growth Fund, up 9.6 per cent in the past month. “It has a bias towards healthcare, which has done well in the stock market rally,” he says. Hollands, meanwhile, recommends focusing on funds with a bias towards companies with a strong cash flow, international earnings and well-covered dividends. He suggests the Threadneedle UK Equity Income fund, or the Fidelity MoneyBuilder Dividend. If the UK market’s sizeable commodity exposure concerns you, Hollands also points to the Liontrust Special Solutions fund as a good choice. “It is underweight commodities and focuses on businesses with high barriers to corruption,” he says.

Many experts also recommend investing in those FTSE 100 companies with exposure to overseas earnings. “Around two-thirds of those companies’ revenues come from outside the UK, making UK shares a good defence against a weakening pound. As those earnings get translated back into sterling dividends, that should support dividend yields,” Hollands says. If you’re looking at individual shares, Ishaq Siddiqi of ETX Capital likes Wolseley – a construction group with good exposure to the US market.

So are equities good value now? Trying to time the markets is not an easy investment strategy. Past performance is not an indicator of future returns. Just because there’s been a 12-year high, that is not to say there are no more highs to come. And investors shouldn’t be detracted from investing because of these heights. Concerns abound over Bernanke’s speech to Congress today, with some fearing hints of a tapering of QE in the US will stall the rally. But with the FTSE 100 closing 0.71 per cent higher yesterday at 6,803.87, sentiment is largely positive.

And whether it’s the US, Europe or Japan, the usual due diligence must apply. Keep your eggs in a few different baskets, backing different asset classes in different regions to minimise risk. Make the most of your Individual Savings Account (Isa) wrapper, which will protect your investments from capital gains tax and tax on dividends (up to £11,520 can be invested into an Isa each year). If you’re new to the investment game, it may be worth consulting an independent financial adviser to find suitable funds.