Are UK shares entering the danger zone?

As any experienced investor knows – often by bitter experience – it is impossible to know when the next stock market crash may arrive, but sooner or later it will. Lately, there have been a possible few alarm bells for me when it comes to UK shares. However, ought I to be concerned about what they may mean?

Economic growth prospects look weak

The UK economy is not in especially bad shape – but it is not looking too inspiring to me either. Currently, we are limping along, still recording modest growth.

But company after company has been warning in recent months about the impact of higher costs imposed by last year’s Budget on their profitability. On top of that, quite a lot of companies are reporting weaker customer demand.

Just look at statements from today (30 September): Card Factory talks of “a challenging retail backdrop”, and ASOS of “a soft consumer backdrop”. Nor is weakness limited to consumer markets. Strix Group refers to a “volatile macroeconomic and geopolitical trading environment”.

On the one hand, that may look like a slowing economy that could hurt the performance of UK shares.

On the other though, weak growth is still growth. If the economy avoids an actual downturn, it is possible that investor confidence will not tumble. That could help support UK shares at their current level, or perhaps higher.

Valuations have moved higher

Another possible danger signal for investors is the number of shares that have hit an all-time high in recent months. Indeed, the blue-chip FTSE 100 index has done the same.

Again, this can be a mixed signal. Seen negatively, it could mean that increasingly frothy prices make the market look increasingly ready for a fall. But it is possible to look at the cup as half full instead. Perhaps those prices simply reflect the resilience of UK businesses in a challenging environment.

For many years, UK shares have looked undervalued relative to American ones – and still do. On that basis, although many share prices have been rising, I continue to think the London market still offers quite a few potential bargains.

Here’s what I’m doing now

So how am I responding as an investor to the potentially mixed messages of the UK stock market right now? I am doing what I always do.

Instead of ‘buying the market’ (for example, by investing in an index tracker fund), I am trying to find individual shares I think may offer me good long-term value relative to their business prospects.

For example, one of the UK shares I think investors should consider in today’s market is Diageo (LSE: DGE). While the FTSE 100 has had a banner year, the Guinness brewer and Smirnoff distiller’s share price is down 31% so far this year.

That reflects weak sales in key markets, combined with the long-term demand risk posed by falling alcohol consumption among younger adults.

However, Diageo is massively profitable and has raised its dividend per share annually for decades. It owns a plethora of premium brands that give it pricing power and has a large global distribution system.

I expect alcohol demand will stay high overall, even if it moves down over time, and reckon Diageo shares look potentially undervalued at the current price.

The post Are UK shares entering the danger zone? appeared first on The Motley Fool UK.

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C Ruane has positions in Diageo Plc. The Motley Fool UK has recommended Diageo Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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