If the FTSE 100 is a reflection of the UK economy, then right now the economy should be booming, the index is playing with the all-time high, again.
Friday 12th May – the FTSE 100 closes at 7,435.39 – a new nigh all-time high. To put that reading in context, last summer it was hovering around 6,500.
In fact, right up until 2015, the all-time record for the index stood at 6,930 – set on December 30th, 1999. So, it has been quite a ride of late.
But what is this telling us?
One way to ascertain if an index is fairly valued is to look at its value compared to projected earnings of the companies that make it up – the so-called PE ratio. Two years ago, the FTSE 100 PE ratio was around 15 – right now it stands at 28.79. It has been higher, last year the PE ratio went close to 40. Right now, the ratio is high, very high, but below the giddy heights seen a year ago.
But if we focus on the PE ratio we may be missing something. The last year has not been good for company earnings, with profits at Royal Dutch Shell and BP, for example, taking a battering. So, if their profits fall, but the share price either doesn’t fall, or doesn’t fall as much as profits, you would expect the PE to rise. But frankly, one would expect these profits to bounce back in due course, so maybe the excessive PEs do not point to trouble ahead, after all.
But why, why does the index keep rising?
The best we can say for the latest data on the UK economy is that it was ‘alright’. According to releases out last week, industrial production contracted 0.5 per cent in March, compared to the month before, construction contracted 0.7 per cent, and the trade deficit got worse, widening to £4.9 billion from £2.7 billion the month before. Actually, on second thoughts, looking at that data alone, the description ‘alright’, over does it.
The latest news from the Bank of England suggests that members of it rate sitting committee, the MPC must be quite sore in the posterior region – due to sitting on the fence for so long. The latest Bank of England Inflation Report had good and bad news. Projected growth for this year has been reduced from 2.0 to 1.9 per cent, but predications for next year and the year after were revised upwards, but only by a small amount.
But then the FTSE 100 isn’t really a bellwether of the UK economy at all – many of its constituents do most of their trading abroad.
Then again, the FTSE 250, which does contain a lot of companies that are mainly reliant on the domestic economy, is also up. The index hit an all-time high on May 10th.
Reports suggest that a recent rise in the oil price was behind the most recent jump in the FTSE 100 – but frankly they may be reading too much into market noise – the oil price has risen in the last few days, but is still significantly down on the price a few weeks ago.
In fact, it is tempting to conclude that the FTSE 100 is telling us that the global economy is in better shape than is commonly realised, and the FTSE 250 is telling us that the UK economy is in better shape than is commonly appreciated.
Either that, or we are due to see a big correction.