FTSE 100 forecasts – a fool’s game
0Point forecasts for investment indices are a fool’s game, but in thinking about what may lie ahead, the simple assumptions of a target 10.5x forward P/E multiple, or an earnings yield of around 9.5%, on earnings which see no growth this year and 7% growth in 2013, would indicate a yearend target for the FTSE 100 of 6,100 points.
These assumptions do not look aggressive or unreasonable.
Determining the price that market participants will be prepared to pay for current and future earnings is inherently tricky and pricing is subject to wild swings. We can model all sorts of permutations but simply the valuation of 10.5 times would represent a 20% discount to the long-run average valuation of markets, and this would look reasonable given the uncertainties and ongoing risks, as well as the subdued growth outlook.
Turning to the corporate earnings numbers, bottom-up consensus forecasts are for progress of 9% this year and 11% next. If these growth numbers were achieved, the market is currently trading on 9x the 2013 bottom-up numbers. Of course good growth numbers would be jolly and all that, but there’s a strong chance of a recession in Europe and the UK this year. We should not however be overly despondent as the stock market is not just the UK or European economy, and almost half of the sales of companies with European equity are generated outside of Europe and the UK where growth is forecast to be much stronger.
As for the implications for asset allocation and equity selection, from an pension fund perspective with mark to market accounting, expected modest equity returns with weekly volatility in excess of 5% do not look overly attractive, particularly as central bank policies will likely keep bond yields low, hence keeping pressure on asset/liability relationships with a low discount rate.
But for those not driven by the tyranny of regulatory recognition of risk, the dividend yield on stocks far outstrips the yield on Government debt, and dividends can grow, not least because corporate balance sheets are generally strong – MSCI reckon that the 1600 largest companies in the world have net cash of over $5tn in aggregate – and there are plenty of companies with high international exposure and growth prospects at reasonable valuations.
The European equity market currently trades with a 2012 prospective dividend yield of 4.5%, and in a low growth world, dividends are hugely significant. Since 1986 dividends have contributed about 60% of total returns. In addition dividends can also protect against volatility.
