The FTSE 100 closed 30.8 points lower at 4835.0, close to its high for the day, after Wall Street held its ground in early afternoon trading. The Dow Jones Industrial Average ended up 108.70 at 7,803.36.
Both markets recorded their biggest one-day falls since the 1987 crash at the end of last week, with the FTSE 100 also posting its biggest percentage fall for five years. But yesterday City analysts were dismissing comparisons with 10 years ago, citing strong institutional liquidity as an important support for shares at their current levels.
"My belief is that this is an aberration and if institutional investors take advantage of the correction to get back in, both US and domestic investors, we may see a strong end to the week," said Savvas Savouri, a strategist at Credit Lyonnais Laing. Other strategists agreed with that sanguine outlook. Steve Wright at BZW said: "It doesn't seem like we are heading for the meltdowns of the past. Valuations look extreme but they are more justified than in 1987."
He added that big City investors currently had 5.5 per cent of their portfolios in cash, about twice the proportion in 1987. That, he said, was a very high cash balance given that interest rates were close to peaking in the current cycle.
Robert Kerr at Nikko agreed with those sentiments: "I don't think this is the beginning of a bear market. The foundations are just settling a bit. It's a small earthquake, no one hurt."
He expressed the widely held view that there remained good value in the market's second-line and smaller stocks, which include many companies that have suffered at the hands of the soaring pound. On Friday, many medium-sized exporting companies actually saw their shares rise despite the fall in the index of leading companies.
Exchange-rate-sensitive stocks received a boost last week after the Bank of England said it believed interest rates had reached a level consistent with its target of restraining inflation to 2.5 per cent.
Following a period of underperformance compared with the FTSE 100's high-flying financial, oil and pharmaceutical stocks, second-line industrial companies have bounced back sharply in relative terms.
According to Robert Buckland, UK strategist at HSBC James Capel: "We would say stocks are starting to look interesting again. I don't see a bear market." He admitted, however, that what happened in the US remained critical.
Despite the calm, yet another sharp drop in the Dow Jones index or fears of monetary tightening in the US or continental Europe are expected to rattle London investors, and some warned that as much as a 10 per cent correction could ensue.
London's blue-chip index had gained 24 per cent this year by the time it reached its all-time best of 5,095.3 on 7 August. Since then, it has lost 6.2 per cent.
"We've got a 4,800 year-end target and we don't expect it to move a lot from here," said Ian Scott, UK equity strategist at Lehman Brothers. Most other strategists are also pencilling in a year-end figure of around current levels.
One exception to the generally sanguine outlook was Richard Jeffrey, head of research at Charterhouse Tilney. He said: "There is much greater excess demand than the market has realised. Interest rates will have to go much higher as a result and base rates will get to 8 per cent before they peak."
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