London’s status as a global financial hub may not be at risk – yet – but its equity markets are certainly out of favour with the wider world. How did we get here? City A.M. takes a long hard look at the state of the stock exchange
“I wanna be a part of it,” Frank Sinatra sang of New York, New York.
“Those little town blues are melting away.”
Ol’ Blue Eyes may have made Liza Minelli’s song famous, but it’s a tune now whistled in the boardrooms of London boardrooms as they contemplate life beyond the capital’s grey summer skies in a year marked by fears London’s public markets have lost their lustre.
This past month saw two more of London’s listed outfits say they were pondering a state-side departure. Plus500, the Israeli retail investing platform, said they’d be worth more across the Atlantic. And YouGov, the polling firm adapt at reading a room, also confirmed they’d be looking at a secondary listing in New York in due course.
They joined a lengthy list of firms looking to chance their arm on Wall Street. Arm, the UK chips firm, will list in the US, whilst gambling giant Flutter is set for a secondary listing. Commodity broker Marex, based in London, has also confirmed it would look at New York if it chose to list rather than letting equity markets this side of the pond have their wicked way.
It wasn’t supposed to be this way. As long ago as 2021, then-Chancellor Rishi Sunak was talking up a ‘Big Bang 2.0’ in an interview with City A.M.
Two and a bit years on, the City’s publicly-traded indices are still haemorrhaging listed companies. It’s not just the big boys. There were 155 small cap firms listed on the FTSE in 2018. That number is now 117.
Ask around the City and the reasons proffered for London’s demise are varied. Some simply say there’s more cash in New York. Bosses quietly complain institutional investors are biased towards short-term returns rather than long-term value. Others blame lax rules on short sellers for doing down London’s reputation. Seven years on from the vote, plenty too blame Brexit for permanently taking the heat out of London valuations – and the sharp and seemingly permanent devaluation of sterling has also made UK-listed firms easy prey for cash-rich US private equity.
A flurry of activity
When Mark Austin, a former journalist and now senior City lawyer, was tasked with reviewing listed markets back in 2020 as part of a government review, it seems there was precious little understanding of just how weak London’s capital markets might be.
“Very often the response we got was ‘really? Reform? Do we need to?,” he told City A.M. earlier this year.
“Now the conversation has totally moved on.”
It’s not hard to see why. Whilst high-profile IPOs have been few and far between, firms have exited public markets at a rate of almost once a week.
Clinigen was taken over by Triton in 2022; Sureserve succumbed to a £200m plus offer earlier this year. Hyve, the events business, has also gone private. Even that great champion of Britishness the Daily Mail abandoned the London markets, with Lord Rothermere engineering a return into private hands last year.
In a bitter twist of fate, that last privatisation was conditional on another British brand – Cazoo – listing in Wall Street.
The slew of departures has spooked government sufficiently that it announced further reviews into London’s financial competitiveness. It may take some keeping up with: since 2020 we’ve had Lord Hill’s review of the listings regime, then Ron Kalifa’s analysis of the fintech sector, Austin’s assessment of the secondary capital markets, which reported in July of 2022.
The government added a further review to that in March 2023, asking lawyer Rachel Kent to look at the research and analysis landscape.
Add to that a host of work done by the City watchdog, the FCA, and we are certainly not shy of suggestions.
Everyone recognises what the central question is, but we’ve all got a slightly different perspective and solution to the problemMark Austin
This year has seen, finally, some movement towards resolving the sticker parts of the listings conundrum.
In May the FCA laid out plans to “make the UK a more attractive place for business,” with a twelve month plan to achieve “better outcomes for consumers and markets” including reforms of the UK’s listing regime and an overhaul of consumer protections.
Proposals included a single listing category to replace the current standard and premium segments, the removal of eligibility rules requiring a three-year track record, and a more welcoming approach to dual class structures, in which some shareholders – often founders – have greater say than others.
Study of the reforms quickly scouted out that even the more liberal approach to dual class share structures would still be “more limited in certain respects than in the US,” as a Cooley legal analysis put it.
Whilst that consultation was launched, the Capital Markets Industry Taskforce was plotting its own review. Set up in August 2022 “in consultation with the government,” the taskforce comprises CEOs and other senior City execs who seek to bring a private sector viewpoint to policy issues. Two weeks after the FCA discussion document was published, Mark Austin was again tasked with a further study – a ‘new market model’ review to carve out a new narrative for Britain as an international financial centre.”
“Everyone recognises what the central question is, but we’ve all got a slightly different perspective and solution to the problem,” Austin told City A.M. at the time.
“This all needs putting together into one cohesive, simple to understand model and vision, which goes all the way across law and regulation, market practice and the cultural attitude and mindset.”
Movement if not momentum
Not everybody is convinced that listing reforms along will do the trick.
One of the City’s most active investment banks has warned that the “considerable activity” to reinvigorate the UK’s equity markets will not be enough to turn around the decline.
In a note seen by City A.M., Peel Hunt’s head of research Charles Hall sounded a distinctly downbeat note.
“There is a problem,” he wrote.
“There has been considerable de-equitisation of the UK market over a number of years and the pace is accelerating.
“Reform of the listing requirements and research rules should help, but much more needs to be done to ensure that being listed is seen as an attractive option.”
His concerns were echoed by the boss of the Quoted Companies Alliance, the trade body for small listed firms.
“It would be churlish to reject all the work that is going into ensuring London’s public markets are fit for the future,” James Ashton told City A.M.
“But as company numbers continue to decline, more must be done to get them functioning better right now.”
Quick wins and tough losses
Ashton has cited tax reform as a way to boost liquidity, modelling a new type of investment vehicle that builds on the success of venture capital trusts.
“Even bolder,” he said, “would be to scrap stamp duty on share trading, a £4bn-a-year dampener that doesn’t even exist across the Atlantic on Wall Street.”
One sledgehammer of a measure that was under consideration at the highest levels in the Treasury was to mandate the UK’s largest pension funds put more cash into UK firms.
The obligatory element of such a move eventually spooked the City and the Chancellor, with Jeremy Hunt instead announcing a voluntary pact between the Treasury and a host of large institutional investors.
That ‘Mansion House Agreement’ will see firms like Aviva and Phoenix promise to put 5 per cent of their default funds into unlisted equities by 2030, giving high-growth companies access to capital that – in time – could see them become London-listed.
Treasury sources said it could unleash £75bn-worth of investment into the UK’s private companies.
But pension funds remain wary of equity markets. Though they tend to increase in the long-term, individual shares do not necessarily do so, even if a longer-term shift towards holding bonds rather than equities in recent years may have been checked by last year’s mini-Budget driven reminder of the need for liquidity.
Of course, London’s attractiveness as a listing destination also relies on valuations.
The capital’s businesses trade at a significant discount, on a price to earnings ratio, than in the US.
But it’s not just that crude measure putting founders off listing, or forcing others to think about secondary listings abroad.
Even bolder would be to scrap stamp duty on share trading, a £4bn-a-year dampener that doesn’t even exist across the AtlanticJames Ashton, Quoted Companies Alliance
A number of high-profile UK firms have been given a torrid time of it on the public markets in recent years.
Darktrace, for instance, is widely recognised as being one of the world’s leading cybersecurity firms, and a UK tech powerhouse.
Yet a short-seller attack from New York saw the firm’s share price slide dramatically. It was accused of questionable marketing and the shorter, Quintessential Capital Management, said it was “deeply sceptical about the validity of Darktrace’s financial statements and fear that sales, margins and growth rates may be overstated.”
Darktrace appointed EY to look at the books. It received a clean bill of health. Lo and behold, shares rocketed.
Some believe the UK’s short-selling regime is open to abuse. Market makers have an exception to a rule forbidding so-called naked short selling, when you sell shares you do not own and are not borrowing from somebody. Proponents of this system say market makers need to be able to do this to provide liquidity in the market.
The UK government, in a consultation published in July, committed to keep the market maker exemption in place, continuing to allow naked shorting.
It’s not just the mechanics of the financial markets, however, that are blamed for London’s malaise.
More and more bosses are looking at London as lacking the institutional expertise and risk appetite to give sufficient fire to the FTSE.
Chief amongst the complainants has been Julia Hoggett, boss of the London Stock Exchange itself.
“We need to recognise that stock markets are about risk capital,” she said. “We have to recognise that not every time, companies will succeed. Some will fail, and not every company will have the returns expected.”
“We’ve clearly got the desire and framework for it, but we’re not all providing financing and the rocket fuel that enables those companies to [grow],” she added.
She’s not the only one to make that complaint.
Schroders chief exec Peter Harrison has made similar noises.
“How do we create a system that is more willing to accept risk,” he asked in an interview with Financial News in March.
“Everything (has become) about risk reduction. That has been the thing that has undermined growth, and importantly it has undermined returns.”
Other corporate leaders have found issue with investors for other reasons; a focus on short-term returns over long-term value.
BT’s outgoing boss Philip Jansen criticised London investors for turning against his £15bn investment plan, spending plenty of cash on fibre connectivity now to guarantee long-term relevance.
UK investors “seem to have a focus more on the short term and find it harder to look at the longer term”, especially when compared to the US, Jansen said in an interview with The Sunday Times.
Jansen’s complaints are not new, with a number of City watchers having critiqued the relative underperformance of UK companies.
However, one analyst pushed back on Jansen’s read of the market and said the short-termist mindset from investors went beyond just London.
“I don’t think that’s a completely fair assessment given that foreign investors own around two thirds of listed UK shares, so reticence towards UK companies is coming from overseas as well,” Susannah Streeter, head of money and markets at Hargreaves Lansdown, told City A.M.
“The London market has struggled to recover partly due to Brexit effect, current UK economic troubles but also the make up of the indices with far less of a tech focus, and so have been left on the sidelines of the recent AI fuelled euphoria.”
The Brexit effect
The reason du jour touted in the City is that the lack of pension fund cash flowing into the stock market has fuelled the decline in valuations, which is in turn blamed on accounting tweaks brought in around the turn of the millennium.
Pension funds’ holding of equities has indeed plummeted since 2000. Just four per cent of the UK stock market is now held by pension funds – down from 39 per cent in 2000, according to a report from think tank New Financial.
However, valuations did not correlate with that decline. As Fidelity fund manager Alex Wright pointed out earlier this year, much of that de-equitisation was done by 2015, and the valuation of the UK market “held up roughly the same”.
You also got a real divergence in valuations between the US and the Eurozone around Brexit. That is the real pushback I give against it being solely a Brexit effect.”Adam Hoyes, Capital Economics
He says the elephant in the room came after that – in June 2016.
“Unfortunately, and again politicians don’t want to say this, but it’s very clear what’s caused the undervaluation: it’s Brexit,” he told Citywire in an interview.
“You can see it to the day that international investors have disinvested from the UK market after the Brexit vote and the uncertainty that that has created. That is the key reason.”
Analysts at Capital Economics similarly point out the emergence of a gap in equity valuations doesn’t tally with the timing of the pension accounting changes and it was only from 2016 that a substantial gap emerged.
Smoking gun for the London Stock Exchange?
Given the timing, it’s tempting to attribute that gap solely to the UK’s vote to leave the EU, analyst Adam Hoyes of Capital Economics told City A.M. in June.
The price/earnings ratio of UK firms, which compares a company’s share price to its annual net profits, was broadly comparable to the US up until 2016. It was only at that point that they began to diverge.
“It looks like a bit of a smoking gun” Hoyes said earlier this year. But, he cautions, the reason may in fact be more muddy.
“You also got a real divergence in valuations between the US and the Eurozone around that time,” he adds. “That is the real pushback I give against it being solely a Brexit effect.”
The EU similarly began to deviate from the US in terms of valuation just prior to Brexit. Much of the valuation discount may in fact, he says, be a simple assessment of the UK and EU’s long term economic prospects against the US in that time.
Investors’ cash is not restricted by borders, and money managers may have just chosen to follow the more rosy economic outlook on the other side of the Atlantic.
Global IPO Market
It is also important to note the global picture of a major listings slowdown. The IPO market globally has been largely shuttered for the past year and the UK is not alone in that regard.
Global IPO activity was down by eight per cent in terms of deal numbers and 61 per cent in terms of proceeds compared to the same period last year, according to data from EY.
The amount of cash raised via UK IPOs did fall more sharply, however, with cash raised falling some 80 per cent on the same period in 2022, and 99 per cent on the blockbuster 2021 levels.
But for William Wright, the director of think tank New Financial, even taking into account that UK slump, the wider global picture shows that it is not Brexit that has dampened the UK’s appeal.
“I wouldn’t personally put Brexit towards the top of the list or even on the list,” he told City A.M. earlier this year.
“If Brexit were a significant factor in the recent slowdown in IPOs in the UK, then surely the markets in the rest of the European Union, which were very active in 2021, would have continued to be very active in 2022 and into 2023 – and they just haven’t been.
“This is not a UK specific problem,” he added.
The fact the UK’s IPO market was going gangbusters in 2021 may also point to that argument. Britain had left the EU by then and it did not then prove to be too much of a deterrent for scores of firms to debut in London.
For Wright, the reason for the current slump on the stock market is the more macro assessment of the current state UK economy.
“The only way that Brexit could be a factor is the extent – and one can argue this till the cows come home – to which Brexit has had a drag effect on the UK economy,” he said.
“They don’t understand”
One other regularly heard complaint is the level of institutional knowledge in the City – with analyst and research coverage thinned out.
Tech firms are particularly hit, one CEO of a listed firm told City A.M.
“People literally don’t understand what we do,” he said after lunch.
Peel Hunt’s Charles Hall also had concerns which date back to a very different element of our relationship with Europe.
Brussels-era MIFID rules forced up the cost of research signficantly, by ‘unbundling’ coverage from trading commissions. In the old days, research was simply part of the service offered by brokerage firms. Now, it had to be paid for separately – and it became apparent that it was not a money maker.
London, like other financial centres, saw vast swathes of its analyst base wiped out. That didn’t happen in the US, where the system continues to operate much as it used to.
Often smaller companies only receive coverage from one firm – and it is often from the house broker, which comes with its own complications.
Hall said “there is clear recognition that the current situation is not working for the benefit of all market participants, let alone the health of the UK economy and the ecosystem around listed companies.”
Tech firms are amongst those who most regularly complain about the lack of research coverage in London.
As two Cambridge professors found, the capital – as you’d expect from a stock exchange still weighted towards ‘old’ industries – hasn’t adjusted its research coverage to the 21st century.
“Investors may well be reluctant to pay for investment research in sectors underrepresented on the London Stock Exchange. Tech firms stand out here as being in the minority, with, instead, mature, “old economy” sectors such as mining, energy, finance and retail featuring more prominently,” the authors Brian Cheffins and Bobby Reddy wrote in a piece for the Harvard Law School.
Could this explain why shares like Ocado – itself the victim of a now unwound short-seller attack – have found it difficult to find love in London? Whilst critics point to the firm’s ‘jam tomorrow’ loss-making, US stock markets – especially the Nasdaq – are full of companies which are yet to break into profitability, but aren’t a punching bag for investors and commentators.
Could Ocado boss Tim Steiner have a point when he implies London investors don’t understand quite how revolutionary the firm’s back-end technology really is?
London Stock Exchange readies for battle
It’s hard to pin London’ stock market malaise on any one thing – and the solutions are similarly difficult to identify in isolation.
The good news, for those looking, is that few are in denial about the scale of the problem.
Efforts are certainly well underway to breathe new life into London’s stock markets – with the benefits of capital-raising and growth that a vibrant public trading exchange brings.
Time will tell.