The FTSE 100 in London reached a record high last Friday, showing strong performance at the start of the year and illustrating the UK’s immunity to the significant decreases experienced by other major stock markets in 2022.
With the rise in retail investors since the pandemic, some of this could be used to explain the strength of the FTSE 100. With it now possible for traders to trade US Futures with Plus500, it’s equally easy for them to dip their toe in the water of international markets like UK equities.
The FTSE rose 1.1% to 7906, surpassing its previous record in May 2018. The index, primarily composed of multinationals generating most of their income outside the UK, has increased 6.1% so far this year as global equity markets are boosted by decreasing global inflation and expectations of central banks slowing interest rate increases.
Hints from the Bank of England on Thursday indicating the possibility of ending interest rate hikes contributed to the FTSE 100’s achievement of a new high. This rise follows years of underperforming compared to other equity markets, especially the US, due to the lack of large tech companies driving Wall Street’s successful gains for over a decade.
The dominance of oil companies and banks in the FTSE shielded the UK market from the severe impact of the global equity downturn in 2022, as the high-flying US tech sector suffered from increasing interest rates. The FTSE was the top-performing developed market index in local currency terms, with a nearly 1% gain, while the S&P 500 suffered a nearly 20% decline. Despite a challenging year for equity markets globally, the FTSE outperformed.
The struggling UK economy
The UK is the worst-performing country in the G7. Its sluggish recovery, which is in part due to Brexit, has meant that its 2023 outlook is fairly bleak. A small recession is expected, or at the very best, a close-to-zero amount of growth. Given that inflation will remain above the 2% target throughout the year, this is bad news for consumers.
To make matters worse, the GBP has also performed badly in 2022, losing a lot of ground to the dollar and the euro. The strengthening of the dollar has been in part because of it being further removed from the Russian war, and with greater energy independence, than its European allies.
However, it also has to do with interest rates. The Fed was ramping up interest rates much faster than the Bank of England and to higher levels. This makes the dollar more attractive given that savings rates are higher.
In 2023, inflation is expected to fall but remain high. Supply chain issues are expected to continue, and whilst the rising energy prices may begin to cool, they ultimately will remain much higher than pre-war levels. And, to top off the year for the UK, house prices – the market that is usually relied upon to cover politically for its struggling economy – are set to crash considerably. The Guardian, for example, estimates it could be as bad as -20%.
So why is the FTSE 100 so strong?
There are a few reasons behind the strength of the FTSE 100, but it’s fair to say that foreign interest is a key factor right now. The GBP is down approximately 11% against the dollar due to the reasons stated above. This makes the pound very cheap, and thus British stocks too.
Even against the Euro, the pound is struggling. So, to most investors outside of the UK, FTSE 100 stocks, which are denominated in pounds, are comparatively cheap to a year ago. On top of this, the previous mediocre performance of the FTSE 100 means that many believe the stocks were good value – or at least compared to the tech stocks that dominate the S&P 500 – even before considering the currency depreciation.
So, to outside investors, GBP stocks are simply a good hedge against the share price.
However, there may be some other factors at play, too. All things considered, 2023 may not be as bad as 2022. Inflation has likely peaked, the global recession will be narrowly missed or mild, and labor markets remain strong in Britain and the US. So, although the news is bleak, the forward-looking stock market isn’t exactly facing a disaster.
The FTSE 100 may be one piece of good news to come out of the UK recently. In fact, it may be no coincidence that it’s being driven by the bad news – the stocks are now cheap given the decline of the pound. However, with the recent rise of interest rates from the Bank of England, along with the imminent recession, the FTSE 100 is dividing opinion among analysts in 2023. One thing is for sure, though, which is that value investors will be more enticed than growth investors.
