Investors puzzled by Blair claims of 'massive' market rise

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The Government has found itself embroiled in a row over share valuations after the FTSE 100 sank to five-year lows earlier this week.

Comments made by Tony Blair last month that the stock market is "still massively up on where it was five years ago" were at the centre of debate again yesterday after the benchmark index ended at 4,393 on Wednesday, a value it has not seen since the week before Labour was elected in 1997. But the Government is standing by its claim. When challenged by the Opposition, the Leader of the House, Robin Cook, told MPs that the Prime Minister's remark was "factually, absolutely, arithmetically correct" as the stock market's capitalisation has risen from £762bn on 1 May 1997 to £1,120bn when the Prime Minister spoke on 19 June, an increase of £358bn, or 47 per cent.

Analysts yesterday attempted to explain the apparent discrepancy. Since most companies' share prices now are, on average, pretty much the same as they were five years ago (hence the zero gain on the FTSE 100), for the capitalisation of the market to be up 47 per cent, the number of shares in issue on the London Stock Exchange needs to have jumped.

This jump could be explained by acquisitions. As companies over the past five years have grown by buying overseas rivals in all-share deals, the stock issued has pushed up their, and the overall market's, value. For example, the giant mobile phone company Vodafone bought Mannesmann of Germany in 2000 by issuing 30 billion new shares to Mannesmann's stockholders. While Vodafone's shares are currently 85.5p, 56 per cent above their level on 1 May 1997, its market value has risen by nearly 600 per cent to £58bn. However, individual shareholders would not have benefited from such rises in capitalisation.

Market watchers also pointed out that the FTSE 100 is designed so that its performance reflects how a portfolio of the largest 100 stocks on the London Stock Exchange would behave. So while acquisitions may have hugely inflated the value of companies over the past five years, shareholder value has failed to improve at all.