The Private Investor: The UK still does not look like a bargain

Black holes have dominated this week. Savers in UK pension funds lost £100bn last year, brought home by Rolls-Royce's warning of its £1.1bn pension deficit. Then one of world's most successful investors, the Sage of Omaha, Warren Buffett, gave a dire warning on the timebomb ticking under derivative contracts.

More frightening was the lack of response in prices in market sectors that should have trembled under Mr Buffett's warning. So complicated are these transactions no one knows how the domino effect will strike after a default. When I organised derivative conferences, I was always amazed at the range of companies interested in learning more. Not just the "safe" sector, the banks, or the most risky sector, insurance, play the derivatives market. Property companies and the big multi-nationals with large treasury operations were keen to join in, too.

So I have been looking at ways of escaping these nasty holes. Increasingly, the self-administered Isa route looks the most attractive. And, while their expected returns of 4 or 5 per cent will not make the pulse race, UK government stocks (gilts) do let investors sleep at night.

As government spending surges, the Chancellor, Gordon Brown, must have been comforted by a Winterflood Securities report that volumes of gilts traded rose by 50 per cent over the past year. At present, private investors account for just 8 per cent of the £280bn of outstanding gilts, a figure that will likely rise. It does not take much research to stock-pick gilts, but already there are warnings of a gilt "bubble" as interest rates fall. Because gilts pay a fixed rate of interest, the lower market interest rates fall the higher gilts prices rise, and vice versa. As many people think we are near the low point for interest rates, gilts could be vulnerable unless you choose carefully.

Merrill Lynch's latest outlook starts with the discouraging view that, at an average prospective price-earnings ratio of 11.6, the UK still does not look a bargain, because the market has averaged roughly 12 since 1926. So, in assessing potential value on major European stocks, it puts them through a test which compares their dividend yield with a corporate bond yield.

Merrill Lynch starts with a list of European companies offering a prospective dividend yield above the yield on their most liquid outstanding bond. Recently, that was 50 per cent of European companies covered by the firm's research team. Then they calculate the weighted-average corporate bond yield for each company based on all outstanding debt issues, to get a more accurate picture of the yield companies actually pay bond holders.

The final screening to weed the strong companies with sustainable dividends, was to look at ML forecasts and dividend cover, with a target of over twice net earnings. The winning groups that emerged and their dividend yields were: Metro (5.3 per cent), Statoil (5.6 per cent), BSCH (4.5 per cent), Old Mutual (5.2 per cent) and Unilever NV (3.4 per cent).

In bad times, a maxim of my favourite punter is that everyone needs a stock they can sing in the shower. He is so cheerful, it must work, and he is telling me to buy Majestic Wine. Profit and earnings in the Numis forecasts are for a rise of a third in the year to April, at £8.1m pre-tax and earnings of 36p a share, and borrowings should be cleared. It has the highest return on capital invested among the food and drug retailers. And, for good measure, its branches are congenial places for research.

Finally, a class of UK companies that may be worth a look are those buying back their shares. There is a growing band of cash-generating UK companies doing this to conserve shareholder value. The small-company team at the stockbroker Charles Stanley has started to put out a list of self-investing companies; the latest includes Greene King, Northern Recruitment, Mersey Docks, De La Rue, AEA Technology, Northern Foods and Autonomy Corporation. I would not take this alone as a measure of merit, but it is nice to know I would not be the only one buying.