While sentiment towards the UK market has improved over the past year, Barclays (BARC.L) strategists say the stocks still look under-owned and cheap, highlighting a number of companies that are likely to benefit from a positive economic backdrop in the UK.

Labour's landslide victory in July's general election, as well as an improving economic picture, have buoyed UK markets this year.

The FTSE 100 (^FTSE), in which the UK's biggest companies are listed, is up 7.9% year-to-date. The broader FTSE All-Share (^FTAS) index, which encompasses the FTSE 100, FTSE 250 (^FTMC) and FTSE SmallCap (^FTSC) indices, is up 7.8%.

However, Barclays European equity strategy team said in a note published Wednesday, that "some of the goodwill the country was enjoying after the election has dissipated on gloomy government messaging around the fiscal/growth situation".

Read more: How the UK's capital gains tax compares with other countries

Prime minister Keir Starmer has warned that the upcoming autumn budget is going to be "painful" and said he would have to make "big asks", as the government seeks to fill a gap in public finances.

There has been much speculation as to what chancellor Rachel Reeves will target to raises funds in her first budget on 30 October, with fears around the impact of rumoured policy changes, such as raising capital gains tax.

Barclays' strategists said these concerns had "hit sentiment towards UK domestic stocks".

"However, our economists do not expect much of a drag, as revenue increases are to fund investment and spending," they said. "Negativity going into the budget may therefore be too high, in our view."

Meanwhile, the macro situation has been slowly improving, with data released last week showing the UK economy grew by 0.2% in August, returning to growth after it flatlined for two months in a row.

Figures released Wednesday showed that UK inflation slowed to 1.7% in September, the lowest rate since April 2021, and falling below the Bank of England's 2% target. This cemented bets that the BoE would announce another 25 basis-point interest rate cut in its early November meeting.

Barclays' strategists also said "UK investments could benefit from mending EU ties over the longer term".

Even so, they said: "UK stock valuations still look depressed, and having been off investors' radars for a while, they still looks very underowned to us."

"But the investment story is not simple," they added, highlighting the specific stocks which their analysts have given an overweight rating.

UK stocks to buy

Barclays' team said there were was a range of UK mid- and small-sized stocks that are exposed to falling rates and improved domestic growth.

In the consumer space, equity analyst Richard Taylor had an overweight rating on British bakery chain Greggs (GRG.L), home furnishings retailer Dunelm (DNLM.L), and online bathroom store Victorian Plumbing (VIC.L).

Taylor and his team said that "logic would suggest that should ... leading [consumer] indicators continue to strengthen (and not deteriorate), then the probability of a cyclical rebound in end markets should increase.

"If the macro backdrop improved, then we would expect a combination of ongoing market share gains and end-market growth to drive faster top-line growth, which could help drive faster earnings growth than investors currently expect," they said.

Read more: Gold not glittering for UK investors despite price surge

Consumer staples is another sector that Barclays highlighted, as pricing pressures ease.

"While UK consumer staples companies have shown over the last few years they have pricing power and can withstand volume elasticity, the UK consumer shopping at the grocery store appears to be in a much better position overall," Taylor and his team said.

In this space, Barclays vice president of equity research Patrick Folan had an overweight rating on Premier Foods (PFD.L), the manufacturer that owns brands including Cadbury, Mr Kipling, and Bisto.

As for pharmaceuticals stocks, Barclays director Emily Field said AstraZeneca (AZN.L) was "uniquely positioned in a UK portfolio as the company is relatively insulted from changes to UK domestic policy/domestic economic trends".

The Barclays team continued to see UK housebuilders as beneficiaries of further rate cuts.

"We expect lower rates to support demand through improvements to both affordability and potential buyer sentiment," said Barclays director Emily Biddulph.

She said that Barclays' preferred stock was Barratt Redrow (BTRW.L), with her seeing a potential 40% upside to the current share price target.

The ￡2.5bn merger between Barratt and Redrow was recently given the green light by the UK's competition watchdog.

Biddulph said the stock was viewed as a "value opportunity following underperformance around this year's transaction", with shares down 12% year-to-date.

"We expect the stock to go from being penalised for not being a 'clean' play on the sector, to being viewed as a high-quality play, with optionality over revenue synergies."

Meanwhile, Barclays' Dominic Nash and Laura Marconi said they see utilities entering an "investment supercycle".

Read more: Interest rate cut in November near certain after inflation drops

They identified operator National Grid (NG.L) as one leader in the sector, as they believed the "market is unjustly ignoring [its] major US presence".

In addition, they said that over the last 18 months, there has been a "substantial capex (capital expenditure) reallocation away from renewables and into grids, which is a prerequisite for energy transition".

The Barclays team had a positive view on domestic UK banks.

Barclays' Aman Rakkar and Grace Dargan said they expected the sector to see double-digit growth in earnings per share despite rate, as well as accelerating loan growth as the economic backdrop improves.

"We are also positive into the upcoming UK budget, as we do not expect an announcement of any bank-specific taxes, which has been a key investor concern in recent weeks," they said.

They highlighted Lloyds Banking Group (LLOY.L) as a preferred stock, seeing it to have a 17% potential upside on its current share price target.

Looking ahead to 2025, Barclays' strategy team said that if a "soft landing" is achieved and the economy picks up post-US election uncertainty, then the "FTSE 100's more defensive sector profile might not be the place to be".

"Ahead of the US election and while we are in the midst of Middle East geopolitical risk, however, we still think FTSE 100 has merit for now," they said. "To take advantage of a cycle pick-up, we think FTSE 250 is better placed and keep a small preference for it."

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