Outperforming but undervalued. Alan Dobbie, Rathbone Income Fund Manager, looks at the disconnect between value and perception of the UK Equity Income sector and points to three key drivers of its current outperformance.
In investing, perception often trumps reality. The IA UK Equity Income sector is a case in point. Over the past five years, the sector has quietly delivered impressive returns – outperforming both the IA Global Equity and Global Equity Income sectors. Yet despite this outperformance, investor sentiment remains muted. Fund flows continue to show net redemptions and capital still exits the sector, even as relative returns improve.
Source: Financial Express; total return to 31 Jul 2025
So, why is a sector delivering strong returns still being ignored? Is this a structural change in investor preferences – or simply the latest example of capital chasing yesterday’s winners, after the tide has turned?
The contrarian surprise
Cast your mind back to mid-2020. Markets were recovering from the pandemic shock, central banks had cut rates aggressively, and equity indices were being pulled upward by the usual growth darlings – primarily large-cap US tech.
Very few would have predicted that a collection of UK-based, dividend-paying stalwarts would go on to outperform Silicon Valley’s most admired names over the next five years. And yet, that’s exactly what has happened.
Companies like Aviva, Imperial Brands, Centrica, NatWest, and Marks & Spencer have all delivered total returns that exceed those of global giants like Microsoft, Apple, Alphabet, Amazon, Tesla, and Meta. Apart from Nvidia, the so-called Magnificent Seven have been quietly outpaced by what one might call the UK’s ‘Fusty Five’.
Source: Bloomberg; sterling total returns to 31 Jul 2025
Yes, this comparison involves selective examples. But the broader point stands: when a diversified mix of UK-listed insurers, tobacco companies, utilities, banks and retailers outperforms global tech leaders, it’s time to question the prevailing investment narrative. Have we moved past the “growth at any price” era – and if so, how long will it take for capital allocation to reflect this?
Growth fatigue and market myopia
The current cycle raises two critical questions:
- Has market leadership become overly reliant on a narrow band of overvalued names?
- Is the global equity rally being sustained more by sentiment than fundamentals?
History suggests these concerns are valid. At the turn of the century, tech optimism propelled names like Cisco, Microsoft and Intel into the top 10 of the S&P 500. Twenty-five years later, only two of the top 10 companies from that period – Microsoft and Oracle – have outperformed the index.
While some laggards fell victim to unrealistic expectations, operational challenges or split into multiple companies, many were simply too expensive at the start.
Today’s tech winners may be great businesses – but they aren’t immune to the same risks. Mean reversion has a habit of catching up, especially when fundamentals lag behind share price momentum.
For long-term investors, identifying when sentiment has decoupled from reality remains a powerful advantage. But it requires patience, discipline and the willingness to step away from consensus.
What’s driving UK outperformance today?
UK Equity Income’s resurgence has been underpinned by three key drivers:
1. Attractive starting valuations
As the world reopened after the COVID pandemic, many UK equities were trading on historically low multiples of their earnings. They also offered materially higher dividend yields than global peers. This valuation cushion, paired with stronger capital discipline, provided ample room for upside.
2. Quiet corporate turnarounds
A number of the UK’s so-called ‘legacy’ businesses have undergone significant operational transformation – often beneath the radar. NatWest and Tesco have both strengthened balance sheets, improved margins and delivered enhanced shareholder returns. BAE Systems is capitalising on multi-year increases in global defence spending, while infrastructure-focused names like National Grid and SSE are benefiting from long-term tailwinds linked to the UK’s transition to a low-carbon energy system. These aren’t merely stabilised companies – they are evolving, cash-generative enterprises aligned with long-term market forces that should boost their profits.
3. The return of real income
In a world of persistent above-target inflation and higher interest rates, investor appetite for inflation-beating, sustainable income is rising. For clients drawing income from ISAs, pensions or decumulation portfolios, the appeal of UK equity income is particularly strong. A consistent yield, underpinned by robust cash flows, should be re-emerging as a core portfolio building block.
Valuation vs sentiment: a growing disconnect
Despite improved fundamentals and relative returns, UK Equity Income remains underappreciated. Institutional allocations are low, retail flows are negative and media coverage continues to favour global growth.
Yet the opportunities here are compelling. Many UK companies offer superior dividend yields and comparable, if not better, earnings growth than global peers – while still trading at meaningful valuation discounts.
This disconnect between value and perception rarely lasts forever. At some point, capital tends to follow performance.
Time for a closer look
As investment professionals, we understand the power of narrative. It influences client conversations, product positioning and, ultimately, fund flows. But when narratives become entrenched, they can obscure evolving realities.
UK Equity Income is not dead money. It’s not just for retirees. And it’s certainly not yesterday’s story.
Beneath the surface lies a universe of high-quality, cash-generative businesses quietly outperforming some of the world’s most celebrated growth stocks. At a time of heightened concentration risk, elevated valuations and fragile earnings momentum, the sector offers rare access to value, income and resilience.
It may not be fashionable. But that, in itself, is part of the opportunity.
When you invest your capital is at risk and you could lose some or all of your investment. Past performance should not be seen as an indication of future performance.
Main image: chris-lawton-QPOaQ2Kp80c-unsplash
