With the FTSE 100 at 15-year highs and flirting with its record closing level of 6,930 achieved in December 1999, investors might be tempted to sell into its strength. That would be a mistake.
It would be a mistake, because we are not strictly comparing like-with-like when we consider peaks over time, especially when that time period is as long as 15 years. As Laith Khalaf, senior analyst at Hargreaves Lansdown says, “The headline index doesn’t tell us anything about how stock prices relate to company earnings, it is therefore a bit like a clock face without any hands.”
For investors to make a sensible, informed comparison of the index and its constituents then and now, it helps to consider the price/earnings (p/e) ratio for the FTSE 100 at those two points in time.
The ratio is a good measure of whether the FTSE 100 is cheap or expensive, because it looks at the price of company shares compared to the profits made by those companies. “The ratio is a reflection of how buoyant or subdued market sentiment is”, explains Khalaf.
According to Hargreaves data, the current average p/e of the UK’s largest companies currently sits at 16 times earnings. This compares with the dizzy heights of almost 30 times earnings reached in December 1999. The long-term average is 15 times earnings.
“Investors shouldn’t get spooked by the FTSE 100 reaching new highs. When you factor in company earnings, the UK stockmarket looks close to its long-term average. In other words, the glass is either half empty, or half full, depending on your point of view.
“In the short term the UK election may cause some turbulence for UK stocks, but an improving economy, low interest rates and low inflation provide a positive backdrop for UK companies.”
According to The Guardian, there are seven reasons for the FTSE heading towards a record high, including the recovery in oil prices, the European Central Bank launching its huge quantitative easing programme and persistent weakness of sterling against the dollar (which helps exporters).
Hargreaves’s data for the two time period also reveals, perhaps surprisingly, that the usual suspects continue to lead the FTSE 100 pack compared to 15 years ago:
The biggest five stocks in the UK market in 1999
|BP Amoco plc||0.0867|
|British Telecommunications plc||0.0703|
|Vodafone AirTouch plc||0.0682|
|HSBC Holdings plc||0.0522|
|Glaxo Wellcome plc||0.0455|
The biggest five stocks as of 17 February 2015
|HSBC Holdings plc||0.0655|
|Royal Dutch Shell A plc*||0.0483|
|British American Tobacco plc||0.0389|
The FTSE 100 closed yesterday at 6,912.66, ahead 23.76 points. At that level, the FTSE 100 now stands just 17.54 points from its closing record of 6,930.2, which was reached on the final full trading day, on 30 December, 1999, at the height of the dotcom bubble.