Reading the runes right

INVESTMENT COLUMN
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The Independent Online
Mid-way through 1995, professional market-watchers can be relatively pleased with predictions for the stock market they made at the beginning of the year. Although forecasts went as high as 3,700 and as low as 2,800, most crystal-ball gazers clustered their estimates for the December level of the FT-SE 100 index at or near 3,400.

Even after the near-70 point fall of the past week, the index now hovering above 3,000 is still within 6 per cent of that target and the consensus seems be that it will end the year between 3,400 and 3,500.

But the political uncertainties that prompted the shake-out of the last week make predictions for the second half even less well-based than usual.

John Major's decision to throw open the leadership of the Conservative Party to challenge has left markets deeply worried about the future direction of UK economic policy. John Redwood has already unveiled a populist plan for tax cuts totalling pounds 5bn. He may not be viewed as a serious contender for the office of prime minister, but whoever emerges as victor will be increasingly tempted towards a giveaway budget to woo voters ahead of the election, prompting fears that interest rates may have to go up.

Many forecasters view as even more serious the outlook across the Atlantic. There, long bond yields at just over 6.5 per cent are factoring in an economic downturn and cuts in interest rates.

Some UK analysts believe that is unduly pessimistic and that the economy is more robust than that implies.

They believe that when the realisation sinks in, the reaction could be sharp. US rates could rise to between 7 and 8 per cent over the next 12 months, with a knock-on effect on the UK market.

Analysts are factoring in UK base rates of 7.4 per cent by the end of this year, up from 6.75 per cent now, rising to 7.8 per cent in 1996. If the Conservative Party's problems force money costs to go higher still, the equity market could be in trouble.

But in the meantime, shares look well underpinned by expectations of further healthy growth in earnings - over 13 per cent - and dividends - nearly 9 per cent -this year.

Good defensive shares to buy look like being general industrial groups such as British Steel, BTR and TI, where there remains scope to benefit from continued recovery and restructuring. But it could take some months yet for the picture to become entirely clear for equities.

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