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With the FTSE 100 inching within touching distance of 10,000 points, UK stocks have had a bumper year, so far. But as we approach 2026, things are beginning to look increasingly unstable.
With so many mitigating factors at play, I decided to see what experts think could happen to the UK market in the coming year.
Moderate growth potential
Unsurprisingly, analysts are cautiously optimistic. The broad consensus suggests the FTSE 100 could reach 10,134-10,778 points by the end of next year. That equates to potential growth of 10%-13% from current levels (including dividends).
Schroders expects UK earnings per share (EPS) to grow around 12% in 2026, a substantial acceleration from the projected 3% growth in 2025. This rebound, according to analysts, will be driven primarily by improved margins rather than revenue growth.
Energy costs are expected to stabilise which, combined with ongoing share buybacks from 45% of large-cap companies, should help drive growth.
US tariffs represent the most significant external risk, but already these are softening. The International Monetary Fund estimates trade tensions will reduce UK GDP growth by 0.3% in 2026, despite the broader economy potentially expanding by 1.4%.
Goldman Sachs estimates growth in European stocks to be around 5% weaker than average due to trade uncertainty and currency challenges.
But the big elephant in the room is interest rates.
More cuts expected in 2026
The Bank of England’s (BoE) rate-cutting trajectory stands central to market sentiment. In a more favourable borrowing environment, UK stock valuations should improve.
Some economists expect two cuts of 25 points each by mid-2026, bringing the base rate to 3.5%. The likely decline in interest rates creates a favourable backdrop for income-focused investors, as dividend stocks become more attractive relative to bond yields.
Many FTSE 100 companies still trade at a discount to global peers, with dividend yields of 3.5% on average. This outlook’s further supported by an expectation that inflation will fall toward the BoE’s 2% target.
Which stocks could benefit?
One stock I’ve been considering weighting more heavily toward is Europe’s leading defence contractor BAE Systems (LSE:BA.). Its $27bn order book provides several years of earnings visibility, adding stability when things get wobbly.
Defence stocks typically benefit from durable, long-term government contracts that are less cyclical than the broader economy and insulated from tariff concerns. EPS are expected to grow 12% to 84p in 2026, with management guiding for around 9% sales growth and 10% profit growth.
That said, it faces pretty stiff competition from US rivals and depends heavily on contract wins. If defence spending drops or a rival takes a contract, it could suffer notable losses.
Still, I think it’s a top stock to consider right now, especially given its impressive dividend policy. Although its yield’s small at only 2%, it has a 20-year track record of dividend increases, backed by consistently strong cash flow.
Final thoughts
By December, we should have a clearer picture of the economic landscape leading into 2026. Overall, analysts expect moderate growth, albeit at a slower rate than in the past 12 months.
As always, maintaining a diversified portfolio is key. Currently, it seems income and defensive stocks may be the safest areas to consider until the growth outlook is clearer.
