FTSE Market Valuation – August 2017

Introduction

It seems the high market valuations we’re seeing at this present time is the du jour thing to be commenting on these days. I am sure many are sick to the teeth of such speculation, if you are one of these people, feel free to stop reading. Honestly, I wouldn’t blame you. 

Valuing the FTSE Today

In terms of valuation, one of the most common metrics that’s used is the overall stock market value (in the case of the UK, the FTSE All-Share) to GDP. The below graph is a little out of date, but the latest figures (end of June 2017) I have is that the current ratio is at 124%. Indeed, the market is up quite a bit from the data snapshot I used, so it’s easily possible that we’re starting to approach highs not seen since the Dot-Com crash. On this basis, the market is very expensive.

The next graph shows the FTSE CAPE ratio’s for various sectors. When you strip out materials and energy, the ratio’s tend to bunch between high teens and low twenties. This would suggest to me that these utilities, industrial, and financial sectors are expensive, but certainly not in a bubble.

The interesting graph that I have split out by itself is the much in vogue consumer staples sector. I don’t have the raw data, but the current CAPE looks like it’s at about 26, I would regard this as very expensive, but I would stop short at calling it a bubble. When looking at companies in this sector, the ratio certainly bears out with what I am seeing when I am looking for value in (i.e. there isn’t much!). Unsurprisingly, I don’t have a single consumer staples business in my portfolio.

One of the things you’ll probably have noticed, is that I haven’t commented on the valuation of the energy/materials sector. This is quite deliberate, as frankly I am appalled at the behaviour of some of the large/mega cap companies that are operating in this sphere. Selling off assets in a bear market and taking on debt while bleeding free cash flow, just to maintain (and even increase) the dividend strikes me as reckless. The oil and metals market may certainly turn at some point, but the question I would have to ask is, what if it doesn’t turn quickly enough? It won’t happen this year, or probably the next. But as long as commodity prices remain low, the risk increases that we see a liquidity crunch develop. If that happens, it would be catastrophic for the Royal Dutch Shell and Rio Tinto’s of this world, as any subsequent dividend cut would collapse share prices as income focused investors stampede out of these shares. Don’t get me wrong, this is not a prediction. However, I do think it’s a risk that has been all too easily dismissed by investors.

Conclusion

The market is dear, going into the detail though, certain sectors are more expensive than others. As I am a horrific market timer, the best strategy for me is to invest little and often; to find companies in neglected/undervalued sectors and look for a reversion to mean.

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