UK Equities: Is the FTSE 100's Rally Sustainable Amid Improved Consumer Confidence?

The FTSE 100 has surged by 8.2% year-to-date as of May 2025, buoyed by a modest rebound in UK consumer confidence. Yet, the question haunting investors is whether this rally has legs or is merely a sugar rush ahead of looming challenges. With inflation creeping upward and manufacturing sectors faltering, the durability of the recovery hinges on whether households' cautious optimism can translate into sustained spending—and corporate earnings.

The Consumer Confidence Uptick: A Fragile Green Shoot

Recent data from GfK reveals a glimmer of hope: the UK Consumer Confidence Index rose to -20 in May, its highest level in two months. The improvement was driven by three key factors:
1. Easing Trade Tensions: The temporary suspension of US-China tariffs alleviated global growth fears, lifting equity markets.
2. Monetary Policy Support: The Bank of England's rate cut to 4.5% has eased borrowing costs for households and businesses alike.
3. Personal Finance Optimism: The sub-index measuring expectations for personal finances over the next year jumped five points to +2, the first time it has exited negative territory in months.

The major purchase index, which gauges willingness to buy big-ticket items, rose to -16—its highest since late 2024. This is critical because consumer discretionary spending accounts for roughly 60% of UK GDP.

Corporate Earnings: Winners and Losers in the Rally

The FTSE 100's performance is a tale of two halves. Consumer-facing sectors like retail, travel, and hospitality have led gains, buoyed by improved sentiment. For example:
- Tesco (TSCO.L) reported a 4.1% jump in Q1 sales, with online demand holding up despite inflation.
- British Airways parent IAG (IAG.L) saw a 12% rise in passenger traffic, reflecting stronger leisure demand.

Meanwhile, manufacturing and energy-heavy stocks are lagging. The CBI's Industrial Trends Survey revealed that manufacturers' output fell at the fastest pace since the pandemic, with energy costs up 18% year-on-year. This divergence suggests the FTSE's rally is unevenly distributed.

The Risks: Inflation, Policy, and a Split Economy

While the mood among households is cautiously optimistic, three factors threaten to derail the rally:
1. Inflation Persistence: April's 3.5% CPI reading (above the BoE's 2% target) remains a concern. Rising energy and regulated service costs could squeeze household budgets, even as interest rates drop.
2. Manufacturing Woes: A net 14% of manufacturers expect output to fall in the next quarter, per the CBI. This sector's struggles could drag on GDP growth, which is already projected to grow just 0.8% in 2025.
3. Policy Uncertainty: Fiscal debates over tax cuts versus austerity, alongside regulatory pressures (e.g., energy price caps), add volatility to business planning.

Investment Strategy: Ride the Rally, but Stay Selective

The data paints a clear path for investors: prioritize sectors benefiting from consumer resilience while avoiding those hamstrung by inflation and supply chain costs.

• Buy:
• Consumer Staples: Unilever (ULVR.L) and Reckitt (RKT.L) offer stable cash flows in a volatile environment.

• Travel & Leisure: EasyJet (EZJ.L) and Holiday Inn's owner InterContinental Hotels (IHG.L) could benefit from pent-up demand.

• Avoid:

• Industrial Goods: Companies like Rolls-Royce (RR.L) and BAE Systems (BA.L) face margin pressures from rising input costs.

• Monitor:

• Retailers with Pricing Power: Marks & Spencer (MK.G) and Next (NXT.L) must demonstrate they can pass on costs without losing market share.

Conclusion: A Rally with an Expiry Date

The FTSE 100's current rally is real—but its sustainability depends on whether consumers can keep spending despite inflation, and whether businesses can adapt to cost pressures. While the May confidence data suggests households are holding their ground, the manufacturing sector's struggles highlight an economy still fighting to regain balance.

For investors, the near-term opportunity lies in sector rotation: pivot to consumer-facing stocks now, but set stop-losses if inflation spikes further or confidence falters. The clock is ticking, but the window to profit from this rebound remains open—for now.

Act now, but stay nimble.