Credit crisis? Will someone please tell the stock market
We've had months of turmoil but the FTSE 100 is only down slightly on the turn of the year. Margareta Pagano and Simon Evans find that the share-index baton has passed to energy and mining groups
Sunday 11 May 2008
It was a trip to China that showed Tom Ewing, the head of Fidelity's UK growth fund, which British companies should receive his investment money. Along with his wife, Clare, he spent six weeks travelling round China, taking nine internal flights and visiting as much as they could of the vast country.
"You only get an idea of the sheer scale by visiting. There are 10 cities which are the size of London, yet no one in the UK has ever heard of them. About 400 million people are moving from the countryside into the cities; think of the need for plumbing, fridges, cars and what that does for raw materials, iron, oil, whisky and eventually Burberrys," he says.
Ewing absorbed what he saw in China, applying the lessons to UK stocks that have a big overseas exposure, particularly in the Far East and other emerging markets.
He has gone for British companies that either provide resources to the new economies, like BP, or sell them products, like Diageo's Johnnie Walker whisky or Vodafone's new Indian network.
"I tend to invest intuitively first – look at how people live and what they want first," he says. "Then I look at the macro picture – the currency swings – and do the maths."
The recipe is working well: his portfolio of 55 FTSE100 stocks, a mixture of mega caps and large caps, has grown by 8.7 per cent to £676m in the three months to April, beating the FTSE 100, which was up 4.87 per cent in the same period.
All the mega caps – such as BP, Vodafone, Diageo, HSBC, BAT, Unilever and the giant mining companies Rio Tinto and Xstrata – are in his portfolio. But you won't find many financial, retail or construction groups – they are still being treated with kid gloves as the credit crunch bites deep into profits.
This is one of reasons why natural resources and energy companies have edged ahead of banks in terms of their weighting in the FTSE 100 index, and one of the reasons why the FTSE is still so resilient in the face of the banking crash. At the start of the year, it stood at 6,416.70 points; it closed on Friday at 6,204.70
About 16 per cent of the UK's blue-chip benchmark index is now invested in mining and basic resources groups, just ahead now of the financial services sector, which had been the bellwether of the stock market for the past few years.
The new breed may now be more representative of the health of the UK market, but the top FTSE 100 companies earn only 36 per cent of their revenues in Britain. The balance is made up of 44 per cent made in the US and continental Europe and 20 per cent in the rest of the world – a big shift over the past decade. Mr Ewing points out that it is companies such as BP which provide a huge proportion of the UK's wealth. In 2004, for example, BP paid out as much in dividends and share buybacks as all the companies on the FTSE 250 company index.
And Mr Ewing forecasts that this reliance on overseas revenues will continue for the UK stock market. BP makes just 21 per cent of its sales in Britain, while Vedanta, the mining group, has no sales in the UK at all, even though it is listed here. Other companies with an HQ in London, such as BHP Billiton, Kazakhmys and Antofagasta, also make their money overseas.
It's a trend that will continue as long as the Chinese, and Indians, have such a strong appetite for metals and other materials. Mr Ewing doesn't like to predict where the FTSE will be by the end of the year but he reckons he can make money.
Martin Brookes, the manager of Prudential's £80bn with-profits fund, is also optimistic: "The bottom seems to have been February and we've powered on another 700 or so since, against a barrage of bad news. Looking at things now, I think there are plenty of reasons to be cheerful. The behaviour of the central banks has been astonishingly aggressive in flooding the inter-bank lending market. It's given the feeling to the markets that the 'cavalry has arrived'."
Mr Brookes adds: "The issue among the banks and others has largely been one of leverage. But if you look at the balance sheets of Britain's quoted firms, there isn't a lot of leverage there. Balance sheets have been repaired since the last downturn. Firms that provide services and make things are largely in good nick.
"In terms of company valuations, equities look cheap on our metrics. But I can't say that with a high a degree of confidence. There is clearly a lot of bad news already priced in equities. The difficulty for investors is forecasting sentiment. Our strong preference at the moment is for credit, where there remains distress. Rather than hit the button on equities now, we'd rather wait until we have more confidence.
Another bull for equities is Mike Lenhoff, chief strategist at Brewin Dolphin. He says of the FTSE 100: " If we can clear 6,500 then we will be nearing previous highs. What would derail things? Well I don't think another rights issue would. The banks haven't suffered a further de-rating of late – they are certainly not losing out relatively. We need to remember that large chunks of the world economy are continuing to do well. The earnings made by large FTSE groups in these regions are partly why the index is stronger than expected."
Even America is performing reasonably, he says. "Earnings in the US are holding up pretty well. The S&P 500 index, excluding financials, is showing around 8 per cent annual earnings growth at the moment – in line with historical averages. Only the other week, we had better- than-expected numbers from the likes of Wal-Mart and Costco – places where we'd expect things to be hurting the most.
"We've seen an astonishing turn in sentiment," Mr Lenhoff continues. "If you go back to mid March when Bear Stearns was bailed out by the Federal Reserve, I think you can see a real turning point. The markets realised that the Fed was serious about not letting things slide down the plughole. The Fed has been assertive and creative in its initiatives, which in turn prodded the Bank of England in the same direction. You've also got to remember that the fiscal stimulus package will soon be kicking in.
"Since February, the traffic really has been one-way – quite amazing. The bank situation certainly hasn't deteriorated."
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