FTSE 100, UK economy, a new way for indexation

Why we should ditch the FTSE 100

Britain’s benchmark index tells us little about the state of the UK economy

For a new year’s resolution, the media, the markets and the stock exchange should ditch the FTSE and find another index instead.

Yes, and here with Maltaway we have the solution with a SMART Fundamentals driven financial product

The economy grew at one of the fastest rates in the developed world. Employment hit record levels. Inflation dropped to 50-year lows. And a pro-business centre-right government was elected with a clear majority for the first time in over two decades.

After so much went right for the UK economy this year, anyone checking their year-end portfolio might expect the FTSE to be comfortably ahead for the last twelve months.

But hold on. With just a few trading days left, the FTSE is likely to end slightly down for the year. Despite a steady recovery in the economy, that will make it three years in a row that the benchmark British index has been essentially flat.

“The FTSE itself only dates back to 1984. We would hardly be losing a long tradition by replacing it”

To some degree that might be telling us that the economy is not quite as strong as it might look on the surface. But, more significantly, it is telling us that the FTSE has become completely unfit for purpose. It no longer reflects what is happening in the British economy.

After all, France’s CAC-40 is comfortably ahead for the year. So is Germany’s DAX, even though neither economy has done as well. As 2016 opens, it is time we retired the index – and came up with something that worked better.

It is hard to argue that the British economy hasn’t had a decent year. You can always pick holes in the performance of any mature nation, and ours is no different.

The yawning trade deficit is worrying, and productivity is stagnant. Even so, the overall performance is very strong. Growth is expected to come in at 2.3pc for the year, after an expansion of 0.5pc in the third quarter. The employment rate has surged to 73.9pc, the highest figure since records began in 1971. Wages are starting to grow again. Price rises are so subdued that the Bank of England is more worried about how to get inflation up rather than down.

You might imagine that would translate into stronger equity markets. After all, if companies can’t make money in that environment, when can they? The trouble is, it hasn’t happened. The FTSE-100 index opened the year at 6,366. It is closing it at around 6,100. Basically it hasn’t moved. That is hardly the first time that has happened.

Re-wind to 2014, and the UK also had a fairly decent year, with the economy recovering. The FTSE, meanwhile, drifted from 6,700 to 6,300. How about 2013? It was slightly better, with the index nothing up gains of close on 10pc, nearly all of which it has since given up. But if you take the last three years as a whole, the index is has been as flat as a pancake.

That is telling us something significant – that the FTSE is not in the least representative of the British economy.

Where has the growth come from in the last three years? It has come from the start-up boom, with more than half a million new businesses being created every year. It has come from a rapidly developing technology sector, and booming professional services, such as consultancy, engineering design and law. And it has come from the rapid growth of self-employment, especially at the top end of the labour market. None of that, however, is reflected in the FTSE.

“Growth is coming from small and medium-sized companies”

Instead, the index is dominated by the sectors you least want to be in right now. The oil and commodity giants such as BP, Rio Tinto and Glencore make up a huge chunk of the index. But the collapse in oil and other raw material prices means those companies have all performed horribly. The banks which make up another big chunk of the index are under pressure from zero interest rates, and assailed by new web-based competitors. High Street retailing is in deep structural decline. True, there are regular re-shuffles. But the new companies are only rarely much better – of the latest additions only the financial technology company WorldPay is at all exciting.

If you look away from the FTSE, you will find that smaller companies are doing much better, and their indexes reflect that.

Take the FTSE-250. It has had another good year in 2015, rising from 16,000 in January to slightly over 17,000 now. If you measure it over the last three years, the performance is even better. It was at 12,600 at the start of 2013, so it has risen by more than 30pc since then. Or take the AIM 100 index, which measures the performance of best small companies that are not yet on the main market. It has risen from slightly over 3,000 at the start of the year, to 3,400 now, a gain of more than 10pc this year. Both are far more representative of how the British economy is doing. Why? Because the growth is coming from small and medium-sized companies.

Other countries don’t have this problem. The Dow is fairly representative of the American economy, and will be even more so if, as many expect, Amazon and Alphabet – as Google now calls itself – are added to the index. The German DAX, with companies such as BMW, Siemens and ThysenKrupp is a pretty good reflection of that country’s mighty manufacturers and exporters. Likewise, France’s CAC-40 reflects an aging but still strong base of luxury good manufacturers and engineering companies. Take a look at any of them, and you get a pretty good idea of how the economy is doing.

That is not true of the FTSE . That matters. The performance of the main index dominates the news. It is what you hear quoted on the TV or radio every day. It is the benchmark for investment, and the standard against which portfolios are measured. The risk is that its dire performance creates a mis-leading impression, deters global investors from the UK, and puts people off saving and investing.

It doesn’t have to be like that. It would be perfectly possible to create a new index that reflected the broad make-up of the British economy, with an emphasis on smaller companies, technology, media, and services, which are our real strengths.

After all, the FTSE itself only dates back to 1984. We would hardly be losing a long tradition by replacing it.

For a new year’s resolution, the media, the markets and the stock exchange should ditch the FTSE and find another index instead.


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