I’m keeping a close eye on UK shares at the moment. Optimism about the prospect of an interest rate cut has been pushing prices higher, but I’m wary.
If rates don’t come down as fast as the market is expecting, then I think stocks could be about to fall sharply. And in that situation, I think there could be some great buying opportunities for investors.
Interest rates
It looks like interest rates have reached their peak, so the question for investors now is how soon they’ll be coming down. I’ve seen expectations that rates will fall in February, but that looks optimistic to me.
There are two potential catalysts for an interest rate cut that I can see. The first is the Federal Reserve in the US cutting rates and the second is the UK economy falling into a recession.
Either or both of these might encourage the Bank of England to bring rates down from their 5.25% levels. But inflation at double the target level gives the central bank an incentive to put this off.
Higher rates create downward pressure on share prices. So while stocks have been rising in anticipation of lower rates this year, they could fall sharply if this doesn’t materialise as quickly as investors expect.
Auto Trader
I think it’s pretty clear that Auto Trader (LSE:AUTO) is a great business. The trouble is, nearly everyone knows it.
The stock has climbed more than 50% over the last five years and I don’t like the look of it at today’s prices. But if some of the optimism comes out of the market, I might well look to buy it.
Auto Trader has a dominant market position, a robust balance sheet, and its extremely low costs give rise to huge margins. In many ways, it’s an ideal stock to own.
Right now, I’m not convinced the share price accurately reflects the risk of a shift to electric vehicles reducing the size of the second-hand market in the near term. But a market crash could change that.
Forterra
One stock that has been rallying in expectation of falling rates is Forterra (LSE:FORT). Shares in the brick manufacturing company are up around 33% since the start of November.
I already own Forterra stock in my portfolio and I think it’s a good way of taking advantage of a structural shortage in UK housing without having to pick a specific builder. But there are risks to this.
The biggest is the possibility of house construction shifting to formats that involve fewer bricks. However, with supply currently outstripping demand, I think it will be a while until this is a big issue.
I’ve stopped buying Forterra shares lately as the recent rally looks premature to me. But if stocks fall sharply, I’d love the opportunity to add to my investment at a better price.
Buying opportunities
As Warren Buffett says, the key to investing is being greedy when others are fearful. And being able to do this involves having an eye on which stocks to buy when the opportunity arises.
I don’t think investors are fearful with Auto Trader and Forterra at the moment. But if the situation around interest rates doesn’t turn out the way people are expecting, I think this could change soon.
