UK Market Valuation

Few weeks off!

After a bit of time off from writing on the blog for one reason and another I thought it would be a good time to update where I think the UK market (FTSE-100) is by running through some basic checks; the objective is to make a complex problem a little simpler by focusing on what I see as important.

Based on the information for the UK we can see that risk levels are above average based on the percentile rank indicator that I use and looking at the moving average of these we can see that the FTSE-100 is in a region where we could expect reasonable returns over the coming years – however there is no clear indication of direction that would be demonstrated by the 1 year moving average crossing the 2-year moving average.

percentile-rank

Annualised volatility remains at average levels suggesting that investor are fairly ambivalent either way; a lower than average reading would suggest more bullish sentiment and over confidence in equities. The FTSE-100 continues to trade above its 250 day moving average which should be considered supportive of equity prices for the moment but a decline below this would be representative of a change in sentiment.

From the FTSE-100 currently 34% of the shares in the index are trading within 10% of their 250 day high; the higher the percentage the greater level of overvaluation (it should be noted that 25% of the index is over 37% above its 250 day low though). The ratio of shares making new highs has in the last week turned negative, less than month ago this was at 28 demonstrating over valuation.

From a long-term perspective, the FTSE-100 looks overvalued when the considering the distance from the 5 year high – this certainly suggests that valuations are steep.

5-yr-high

The Stock Bond Performance ratio is telling us that there has been a recent move to more defensive assets as the ratio fell through is long term average – points at either +/- 10% have been extremes to consider entry, at -4.13 we are not there yet.

stock-bond

Based on fundamentals the number of shares in the FTSE-100 that have an EPS above their EPS10 (10 year average Earnings Per Share) is 61%; this is high and suggests that the risk of a reversion to the mean (EPS10) exists. Investors may not be concerned about fundamentals in the current ultra-low interest rate environment but they will be if sentiment deteriorates – the rise in EPS is based on the continued growth in Corporate Profits that are again above trend.

corporate-profits-k

Whilst not at an extreme level 44% of the stocks in the FTSE-100 are at or above their all-time PE average – with the top 10 trading at anything from 2 to 6.65x their all-time average. The CAPE overall is at a reasonable level with 16x traditionally considered the maximum for buying shares; currently around 60% of the FTSE-100 is above its CAPE and it is only the fact that some of the largest shares by market cap have low CAPE ratios that the index is as low as it is e.g. Royal Dutch Shell.

Market cap to GDP is reasonable at 117% with highs above 150%; recent times any levels below 100% have offered interesting points to add risk.

mkt-cap-gdp

Economically the UK Debt to GDP level remain high, with household debt to income ratios also above average; however, this does not seem to be slowing consumer sentiment as retail sales suggest consumers are continuing to spend. Overall these indicators would lead to the following conclusions: –

  • Risk levels remain above average with the FTSE-100 at or near 5 year highs and the percentile rank indicator above 60%;
  • Other indicators such as the Mcellan Summation Index and Highs & Lows give no clear indication in either direction, reflecting uncertainty, however the general trend remains positive with the index above its 250 day moving average;
  • Valuations remain reasonable with a CAPE below 16x; however, this may be skewed by the low CAPE ratios of some of the largest firms in the FTSE-100 by market capitalization;
  • Earnings could be at risk, if Corporate Profits revert to their mean and fundamentals deteriorate; with over 61% of shares in the index with an EPS above their 10 year average EPS risk exists;
  • The UK and individuals remain indebted, but this seems to matter very little to the consumer who continues to spend.

The UK equity market is not substantially overvalued, but at the same time it is not offering real value.


Model Portfolio

Return from the model portfolio have been relatively flat over the last few months; however I am still more than happy with a 20% return for the year to date.

With markets in decline the portfolio has been helped by the ETFS that allow short positions in the FTSE-100 and S&P 500; at the same time the ETFS linked to Sterling have also seen a recovery as the process regarding the UK’s exit from the EU becoming even less clear cut. My one disappointment is my decision not to take 50% plus profits from Interserve 

model

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