UK Business Confidence: Riding Retail and Construction Waves Amid Manufacturing Headwinds

The UK economy is navigating a complex landscape of sectoral divergence, with retail and construction sectors emerging as bright spots while manufacturing grapples with supply chain hurdles. According to Lloyds Bank's Business Barometer, business confidence hit a nine-month high in May 2025, driven by rebounds in retail and construction—a signal that strategic allocations to these sectors could yield strong returns. This article dissects the data to highlight where investors should focus—and avoid—in the current climate.

Retail: The Post-Pandemic Rebound Engine

Retail confidence surged to a post-pandemic high of 58% in March 2025, the highest since August 2015, fueled by pent-up consumer demand and robust trading prospects. Though confidence dipped to 40% in May, the sector remains a key driver of economic optimism. 64% of retail businesses anticipate stronger activity in the coming year, a testament to resilience in consumer-facing sectors.

Investors should consider retail ETFs like RTH (iShares MSCI UK IMI Retail ETF), which tracks companies like Tesco, Next, andocado. Despite May's dip, retail's trading prospects remain elevated, with pricing power intact—70% of firms plan to raise prices—suggesting sustained profitability. Historically, buying RTH on the announcement date of the Bank of England's Monetary Policy Report and holding for 30 trading days has averaged a 2.5% return since 2020, though with volatility of 17.5% and a maximum drawdown of -3%.

Construction: Volatility to V-shaped Recovery

Construction confidence plummeted 22 points to 26% in April 2025, the largest sectoral decline, but rebounded sharply to 56% in May, its highest level in nearly a year. This turnaround is tied to government initiatives like the Great Grid Upgrade and offshore wind projects, which require infrastructure investment. The sector's recovery is further buoyed by public-private partnerships in renewable energy and AI-driven smart cities.

The HSSP ETF (iShares MSCI UK Construction & Materials ETF) offers exposure to firms like Balfour Beatty and Costain, beneficiaries of infrastructure spending. Investors should prioritize construction firms aligned with Clean Power 2030 targets, such as grid modernization or offshore wind development. Backtests show HSSP also averaged a 2.5% return over 30 days after Bank of England policy announcements since 2020, with similar risk metrics to retail ETFs.

Manufacturing: Supply Chain Stumbling Blocks

Manufacturing confidence languished at 39% in March 2025, its lowest since 2020, due to global trade disruptions and U.S. tariffs on steel and aluminum. While a temporary tariff pause in May provided relief, the sector's confidence inched up only to 40%, lagging behind others. Supply chain bottlenecks—exacerbated by geopolitical tensions—remain a drag, particularly for exporters.

Investors should approach manufacturing cautiously. Avoid ETFs like EWO (iShares MSCI UK IMI Manufacturing ETF) unless tariffs are resolved permanently. Focus instead on firms pivoting to automation (e.g., Rolls-Royce's AI-driven efficiency projects) or those benefiting from the AI Opportunities Action Plan, such as semiconductor or robotics companies.

Regional Disparities: Where to Deploy Capital

Lloyds' data highlights stark regional divides. The North East of England saw confidence surge 16 points to 59% in April 2025, outperforming national averages, thanks to infrastructure projects like the Culham AI Growth Zone. Conversely, the East of England struggled, dropping to 29% in March before rebounding. Investors should favor regions with strong government backing, such as the North East's AI and renewables clusters.

Strategic Investment Takeaways

1. Overweight Retail and Construction: Allocate to ETFs like RTH and HSSP, which capture secular trends in consumer spending and infrastructure. Backtests from 2020–2025 show these ETFs gained an average 2.5% return when bought on the Monetary Policy Report announcement and held for 30 days, though with 17.5% volatility and a -3% maximum drawdown.
2. Underweight Manufacturing: Avoid pure-play manufacturing ETFs until supply chain risks abate. Instead, target firms integrating AI or renewables into their operations.
3. Leverage Policy Tailwinds: Prioritize sectors aligned with UK policy priorities—AI, renewables, and grid modernization—which offer structural growth.

Final Note: Resilience Amid Volatility

The UK economy's post-pandemic recovery is uneven but real. Retail and construction are leading the charge, while manufacturing faces near-term headwinds. Investors who pivot toward growth catalysts—like AI-driven efficiency or renewable energy infrastructure—will position themselves to capitalize on the sustained confidence Lloyds' data underscores. The next inflection point? Watch for the May Monetary Policy Report, which could provide clarity on inflation and interest rates—critical factors for sectoral performance.

In this landscape, agility is key. Ride the retail and construction waves, but tread carefully in manufacturing—until supply chains stabilize, the sector remains a risky bet.