US spring fever sends a positive message

It was pause-for-breath time on both the London and the New York markets yesterday, but that was surely to be expected after last week's sizzling performance on Wall Street, which on Friday pushed shares there to an all-time high. The first obvious question raised by that soaraway Wall Street is: are the American investors nuts? Hot on its heels should come the second: what implications does their spring fever (if it is that) have for the British market?

So much vastly expensive time is put into justifying any market movement that anyone seeking to make sense of it all tends to find the signals drowned out by the background noise. One example of this over-supply of information is the variety of "valuation indicators", indicators that purport to show whether shares, in historical terms, are expensive or cheap.

Thus Goldman Sachs lists five valuation indicators for UK shares, while Socit Gnrale Strauss Turnbull shows eight. It is all quite interesting if you like that kind of thing, but also liable to confuse.

So let's start with the most basic indicator of all: the level of share prices in real terms - what would have happened to share prices had there been no inflation? The results for both the US and the UK markets are shown in the graph. The run goes back nearly 25 years, so it should be long enough to have some meaning. What messages might one draw? The most obvious is that share prices in the UK are now only about 10 per cent higher than they were at the beginning of 1972; US share prices are up some 20 per cent. On that basis, the reaction of most people would be to say that, though share prices might be fully valued now, they are not vastly overvalued.

But now look at three slightly less obvious messages. Put your hand over the left hand side of the graph and look at the solid line showing British share prices. You see the sort of performance that investment companies use in their advertisements: several hiccups, but generally a solid upward movement.

Now put your hand over the right-hand two-thirds and you see the reverse: the nightmare of plunging values, taking UK markets down to some 40 per cent of the early 1972 levels throughout the whole of the second half of the 1970s (and briefly down to 20 per cent at the beginning of 1975).

Finally, put your hand over the left-hand two-thirds and you get a picture that is basically flat: between spring 1987 and the present there has been no strong overall trend.

For the US there is a slight shading of difference. The US market has in general been less volatile than ours. The two move together to quite a remarkable extent, but our early 1970s plunge was steeper than theirs and their market has been generally stronger over the last five years than ours. However, the similarity is surely more interesting than the differences. Get the timing right in one market and you would make money in the other.

That gives an answer to the second question posed at the beginning of this commentary: if the American investors are right and the new levels for share prices are sustained, then it is highly likely that prices in the UK will catch up. Indeed there is already some leeway.

If one does take that view, there are plenty of ways of justifying it. Goldman's analysis suggests that UK shares are 15.5 per cent undervalued, which by co-incidence would bring them up in real terms to something close to the US levels shown on that graph. Socit Gnrale's analysis leads it to predict an FT-SE 100 at 3,500 to 3,750 by the end of this year, a slightly more bullish outlook. So the notion that we ought to catch up with America can be justified by the professionals over here.

But what about the initial question on the US spring fever: what can one sensibly say to that? Go back to the graph and consider this proposition: if one looks at all the changes that have taken place in the US corporate sector over the two decades, surely all those companies ought to be worth 20 per cent more in real terms than they used to be then.

That must be right. The corporate sector is larger; the companies within it are very much more efficient; the market they supply is larger. The valuation may be rather too high, but it is not absurdly high. But then one might ask: what about the experience of the 1970s? I think that we have to accept that the very rapid inflation of the 1970s seriously damaged both the company sector and the whole investment climate.

Another explosion of inflation is most unlikely, thanks to the power of the bond markets: if inflation were to rise sharply they would push up long-term interest rates and choke it off. Some of us expected the crash of bond prices last year to lead to a parallel weakness in equities; in fact their action may have prevented such a crash by averting the possibility of runaway inflation.

Of course there could be a sharp correction in US prices. More likely they are on a plateau. Either way, the implications for the UK are rather positive. In investment, we are copycats.

Start your day with The Independent, sign up for daily news emails
Kim Wilde began gardening in the 1990s when she moved to the countryside
peopleThe singer is leading an appeal for the charity Thrive, which uses the therapy of horticulture
Alexis Sanchez celebrates scoring a second for Arsenal against Reading
Life and Style
An easy-peel potato; Dave Hax has come up with an ingenious method in food preparation
voicesDave Hax's domestic tips are reminiscent of George Orwell's tea routine. The world might need revolution, but we like to sweat the small stuff, says DJ Taylor
Japan's population is projected to fall dramatically in the next 50 years (Wikimedia)
ebooksA special investigation by Andy McSmith
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + OTE £45,000: SThree: SThree Group have been well e...

Ashdown Group: IT Manager / Development Manager - NW London - £58k + 15% bonus

£50000 - £667000 per annum + excellent benefits : Ashdown Group: IT Manager / ...

Recruitment Genius: Sales Consultant / Telemarketer - OTE £20,000

£13000 - £20000 per annum: Recruitment Genius: Scotland's leading life insuran...

Ashdown Group: Training Programme Manager - City, London

£40000 - £45000 per annum + benefits : Ashdown Group: Training Programme Manag...

Day In a Page

NHS struggling to monitor the safety and efficacy of its services outsourced to private providers

Who's monitoring the outsourced NHS services?

A report finds that private firms are not being properly assessed for their quality of care
Zac Goldsmith: 'I'll trigger a by-election over Heathrow'

Zac Goldsmith: 'I'll trigger a by-election over Heathrow'

The Tory MP said he did not want to stand again unless his party's manifesto ruled out a third runway. But he's doing so. Watch this space
How do Greek voters feel about Syriza's backtracking on its anti-austerity pledge?

How do Greeks feel about Syriza?

Five voters from different backgrounds tell us what they expect from Syriza's charismatic leader Alexis Tsipras
From Iraq to Libya and Syria: The wars that come back to haunt us

The wars that come back to haunt us

David Cameron should not escape blame for his role in conflicts that are still raging, argues Patrick Cockburn
Sam Baker and Lauren Laverne: Too busy to surf? Head to The Pool

Too busy to surf? Head to The Pool

A new website is trying to declutter the internet to help busy women. Holly Williams meets the founders
Heston Blumenthal to cook up a spice odyssey for British astronaut manning the International Space Station

UK's Major Tum to blast off on a spice odyssey

Nothing but the best for British astronaut as chef Heston Blumenthal cooks up his rations
John Harrison's 'longitude' clock sets new record - 300 years on

‘Longitude’ clock sets new record - 300 years on

Greenwich horologists celebrate as it keeps to within a second of real time over a 100-day test
Fears in the US of being outgunned in the vital propaganda wars by Russia, China - and even Isis - have prompted a rethink on overseas broadcasters

Let the propaganda wars begin - again

'Accurate, objective, comprehensive': that was Voice of America's creed, but now its masters want it to promote US policy, reports Rupert Cornwell
Why Japan's incredible long-distance runners will never win the London Marathon

Japan's incredible long-distance runners

Every year, Japanese long-distance runners post some of the world's fastest times – yet, come next weekend, not a single elite competitor from the country will be at the London Marathon
Why does Tom Drury remain the greatest writer you've never heard of?

Tom Drury: The quiet American

His debut was considered one of the finest novels of the past 50 years, and he is every bit the equal of his contemporaries, Jonathan Franzen, Dave Eggers and David Foster Wallace
You should judge a person by how they peel a potato

You should judge a person by how they peel a potato

Dave Hax's domestic tips are reminiscent of George Orwell's tea routine. The world might need revolution, but we like to sweat the small stuff, says DJ Taylor
Beige is back: The drab car colours of the 1970s are proving popular again

Beige to the future

Flares and flounce are back on catwalks but a revival in ’70s car paintjobs was a stack-heeled step too far – until now
Bill Granger recipes: Our chef's dishes highlight the delicate essence of fresh cheeses

Bill Granger cooks with fresh cheeses

More delicate on the palate, milder, fresh cheeses can also be kinder to the waistline
Aston Villa vs Liverpool: 'This FA Cup run has been wonderful,' says veteran Shay Given

Shay Given: 'This FA Cup run has been wonderful'

The Villa keeper has been overlooked for a long time and has unhappy memories of the national stadium – but he is savouring his chance to play at Wembley
Timeless drama of Championship race in league of its own - Michael Calvin

Michael Calvin's Last Word

Timeless drama of Championship race in league of its own