Where next for the FTSE 100?

The UK’s premier stock index is now worth less than Apple, according to some reports. What has driven this underperformance, and what should investors do to diversify their exposure?

US indices like the S&P 500 and the Nasdaq are making new records, seemingly every day. The DAX is looking to breach the June highs. But the FTSE 100 is languishing around the 6000 mark, well off the record highs of May 2018 and even below the peaks of 2000 and 2008.

What has held back the FTSE 100?

In the periods after 2001 and 2008, the FTSE 100 did well. Its exposure to banks, mining stocks and oil companies provided it with the fuel to make strong gains, although even in 2008 it was unable to break the 2000 highs.

The FTSE 100 lagged the S&P 500 by a significant margin in the bull markets following 2000 and 2008. But since 2009 the gap has widened to a chasm. In part this is not a phenomenon that affects the FTSE 100 by itself. The US has outperformed almost everyone else since 2009, and despite repeated headlines about ‘European stocks being poised to outperform’, stock market indices this side of the Atlantic have been left far behind as USA Inc storms ahead.

In the current market crisis, the FTSE’s heavy weighting towards banks and oil and other constituents such as airlines and engineering have been a serious handicap. UK banks have performed poorly compared to the US due to the gloomy outlook provided by Brexit, given the concerns about the UK banking sector losing access to the financial markets of the EU. Meanwhile, the rout in oil prices this year hit Shell and BP hard. These two firms are a large weighting in the FTSE 100, dragging it down in February and March and acting like a ball and chain during the recovery from March onwards.

Then there are other poor performers like IAG, which has seen airline travel drop to a fraction of levels seen last year, or Rolls-Royce, whose aero-engine business is going to be very quiet for the next few years. Carnival Cruise Lines is another name that has seen huge falls thanks to Covid-19, having previously been a very strong performer.

FTSE 100 lacks tech-magic

It is not just a question of what has kept the FTSE 100 from moving up. The index also lacks the glamour and high performance of big tech stocks. These have been powering the S&P 500, and of course the Nasdaq, higher since 2009, but have come into their own this year. Without them, the S&P 500 would still be below the highs of February 2020. The FTSE 100’s lack of tech names has meant it has gone without a major engine of growth of the past ten years, and there is little sign of any new firm that has such strong growth qualities joining the index in the near future.

It is not just tech stocks either. Healthcare has been a major source of earnings growth for the S&P 500, and the likes of GlaxoSmithKline and AstraZeneca have not been able to provide the FTSE 100 with the kind of returns seen in their US peers. Even when they have done well, the FX element has hampered performance, with the pound’s volatility against the dollar being both a help and a hindrance at times. Recent dollar weakness and concomitant sterling strength has dampened performance of these and other big international firms too, providing yet another headwind for the FTSE 100.

Some bright spots amid the gloom

While we can talk about the poor performance of the FTSE 100 overall, we should not overlook the individual strong performers on the index. Admiral, Intercontinental Hotels, Compass and the London Stock Exchange are all members of the index which have recorded impressive price returns.

It is important to remember that an index is an average, and gives exposure to a country in both its good and bad forms. US markets have not always been the best performer in the world, and at some point another index may take the top spot. And the FTSE 100’s dividend yield of 3.9% is healthy and not to be ignored. But UK investors need to remember that there is a whole world of indices and stocks available and that looking solely at UK-listed companies or the UK indices may lead to them missing out on other opportunities.

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