The FTSE 100 may see a year of two halves: H1 could see continued outperformance, and H2 a correction as the UK recession takes grip.
At the start of 2022, it seemed faintly obvious that the FTSE 100 would be one of the best-performing indexes internationally. Indeed, while it’s down 2% year-to-date, the FTSE 100 has seen a positive return for investors when adding in dividend income. By comparison, the NASDAQ 100 is down by 31% over 2022.
The UK’s oil, bank, and mining-heavy index had precisely the mix of ‘dinosaur’ stocks that tend to do well in a tightening monetary environment, and comparatively less well when central banks turn the taps back on.
But this also means that the FTSE 100 could be in for a tale of two halves in 2023.
FTSE 100: where next in 2023?
The good news is that the Sunak-Hunt government, despite its unpopularity, has brought some much-needed stability after the disaster that was Truss-Kwarteng. Politically, a general election seems unlikely until 2025, giving index investors the certainty that they crave.
It’s no secret that the UK economy is under pressure. The Bank of England’s base rate is at 3.5%, with markets pricing in an increase to 4.75% by Q2 2023. CPI inflation has dipped to 10.7% but could creep up again when energy bills rise in April.
The OECD thinks the UK will experience no growth at all through 2023, as a toxic cocktail of Brexit, the pandemic legacy, the Ukraine War, Chinese lockdowns, and the highest tax burden since Suez hits the economy hard.
There’s also the impact of strikes to consider. ONS figures show that 417,000 days of work were lost in October, the most since November 2011. And with workers unable to afford the basic cost of living, and government and companies fearful of the recession, rising debts, and the horror of a wage-price spiral, industrial action is set to continue well into Q1.
Of course, many companies saw record profits in 2021, and PwC research shows that CEO pay of FTSE 100 executives rose by 23% in 2022 to a record £3.9 million. Alongside common share buybacks and bumped up dividends in certain sectors, it’s likely the argument will be protracted, and end with at least some pay rises.
But while the FTSE 100 is often used as the benchmark for the UK economy, it’s really not that simple. FTSE Russell data shows that circa 82% of FTSE 100 company revenue is derived from overseas, with companies choosing to list in London presumably for access to its financial centre.
And as the pound remains down circa 9% year-to-date against the US Dollar, revenue in sterling terms has increased.
A side note: overseas investors may make use of this currency advantage to start takeover and strategic positioning activity in FTSE 100 companies next year. For perspective, there’s already a huge discount on the one-year-ahead average price-to-earnings ratios of FTSE 100 companies compared to those in the average S&P 500 stock.
FTSE 100: oil, banks, and mining
The FTSE 100 is heavily influenced by the activity of a handful of sectors.
The FTSE 100 big four banks — HSBC, Lloyds, NatWest, and Barclays — are all benefitting hugely from rising net interest margins but will only do so as long as mortgage holders do not slip into negative equity, employment remains high, and customers can continue to meet their payments. This could see the banks rise in H1 2023, but then fall thereafter.
The oil majors — BP and Shell — could face a similar fate. While both have enjoyed a stellar run in 2022, it’s easy to forget that oil went negative for the first time ever in 2020. Brent Crude has come down from its Ukraine War-induced high to just $79/barrel, only $9 above the 2021 average. Demand destruction in the form of a global recession could see the hard commodity fall further in the latter half of next year.
Then there’s the FTSE 100 miners, including Rio Tinto, Anglo America, Glencore, and Fresnillo. All four have profited from sky-high commodity prices through 2022, predominantly due to squeezed global supply. Russia and Ukraine together comprise a globally important area of production of critical metals, including iron, nickel, and copper. And by war or sanction, exports have fallen significantly.
While the mining super-cycle could be set to continue over the longer term due to this problem and the wider shortage gap, H2 2023 could see a slowdown in demand as the recession starts to bite investment.
There is one potential FTSE 100 event to keep an eye on in 2023: the potential relisting of ARM in London. While far from a certainty, it would send a signal to the markets that the city is open for business.
While nobody has a crystal ball, the FTSE 100’s comparative strength could last until summer 2023. But if inflation starts to fall as recession takes hold, central banks will loosen monetary policy, and the index could once again be overtaken by its international peers.
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