Market view
September was one of those months that showed
how the FTSE 100 can be so misrepresentive of the UK stock
market as a whole. Falling sectors outnumbered rising sectors
by almost 2 to 1. Many more stocks fell than rose on the month
yet at the close of play on 2 October the FTSE 100 traded
at 4,209.06 – a gain of 0.11 per cent on the month.
The reason: among the few sectors to perform well were banks,
telcos and drug stocks, which together have a disproportionate
weighting within the FTSE 100.
Banks enjoyed a decent results season and
the two big drugs stocks (AstraZeneca and GlaxoSmithKline)
had some decent product data but it was not the stuff of rip-roaring
legend. The food retailers got a boost with decent numbers
from Tesco and government clearance for Morrison’s to
bid for Safeway.
The FTSE 250 looked more representative.
It slipped by 2.78 per cent over the course of the month to
close at 5,529.13 – its heavy weighting to cyclicals
doing it no favours in a month when a few questions were raised
about the strength of the recovery in the global economy.
The weakness of the – essentially – one stock
sector that is Steel was down to some pretty woeful results
from Corus. With the stock having trebled in the space of
three months the numbers provoked heavy profits taking.
The FTSE Small Cap Index fared little better
than the mid-caps. It closed 2 October at 2,374.12 –
a net loss of 2.28 per cent on the month.
Goldilocks’ economies
My last column (written while gazing up at the Parthenon)
was penned in early September when Goldilocks seemed to be
back in the driving seat. That is to say the economic data
– and corporate earnings releases – suggested
that 40-year low base rates around the world were starting
to drive economic growth. But, like Goldilocks’ porridge,
the US and British economies were not too hot or too cold
– there was no reason why a sharp tightening of monetary
policy seemed likely to be needed.
Bulls were able to argue that since corporate
fixed costs had been pared to the bone over the past few years
any pick up in orders would have a huge impact on the bottom
line of America Inc and UK plc and that there really was a
very good case for buying equities. The market consensus in
early September was bullish and in some quarters there were
signs of a re-emergence of creeping lunacy: Bulletin Board
ramping, day traders coming out of retirement and silly bid
stories doing the rounds.
Bear power
Returning from Hellas to Hell (i.e. London) a month later
the world seemed to have changed completely. Bears were in
the ascendant thanks to some nasty profits warnings (Sun Microsystems
in the US being a case in point), to data suggesting that
the US economic recovery was stalling and to worries about
a weak dollar and a rising crude price. But to say that the
bears are in control would be an exaggeration.
The economic data has not been universally
bad – indeed there has been some data (US September
jobs, UK August house prices) suggesting that the recovery
is not stalling but accelerating! And although crude prices
have risen towards $30 a barrel, even OPEC has not suggested
that it would be happy with $30 plus as was seen earlier this
year.
The mood change is perhaps a reminder of
those old clichés about ‘nothing ever moving
in straight lines’ and ‘markets must always climb
a wall of worry’. That is to say, even in August the
weakness of the dollar/the US trade deficit was an issue and
even in August not every corporate result was a forecast beater
- but at that stage investors were prepared to ignore such
distractions. Nothing much changed during September except
sentiment, and that is a fickle creature and can (and will)
turn again on a sixpence.
Clear risks
In terms of valuation, at 4,274 the FTSE 100 cannot be described
as a steal. It now trades on an historic price-earnings ratio
of just over 17. And for those who think that the real value
lies in mid-caps the sobering truth is that the FTSE 250 Index
trades on a PE of more than 21! Those sorts of ratings demand
some pretty heroic earnings growth to be justified. The bulls
counter that if there is even modest top-line growth, the
cost-cutting of the past three years will deliver the sort
of earnings growth needed to justify current valuations. However
if the bull case on earnings growth is just enough to justify
current valuations one wonders, ‘where is the upside
coming from?’
And there are clear risks. There is no doubt
that higher crude prices will slow economic growth and in
the UK, at least, there are still more tax hikes coming through
which must inevitably put something of a dampener on consumer
behaviour. At present, consumers appear to be spending heavily
on credit but even a small rise in interest rates might make
some think more carefully about extending their exposure to
the ‘never-never’. Indeed the high level of consumer
debt (and in some cases corporate debt) is also something
of a concern. If – as the bulls argue – we are
now entering a low-inflation growth era then the issue of
debt repayment may well come to the fore. Historically - in
the twentieth Century at least - debt has been eliminated
by inflation, it has rarely been repaid.
The mood in the City is clearly volatile.
And at such times it takes just one significant piece of data
to spook shares sharply higher or lower – in such an
atmosphere questions of valuation might seem a little irrelevant.
But for what it’s worth it is hard to see the compelling
rush to plough into equities just now: there are clear downside
risks but limited (fundamental) upside.
Tom Winnifrith is editor of internet tipsheet
www.t1ps.com. He has recently launched www.UK-Analyst.com,
a website offering share tips and daily market reports
REFS is
a mine of invaluable information for the private investor.
