eyeQ: FTSE 100 vs FTSE 250 – which one just triggered a buy signal?

“Our signals are crafted through macro-valuation, trend analysis, and meticulous back-testing. This combination ensures a comprehensive evaluation of an asset's value, market conditions, and historical performance.” eyeQ

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FTSE 100 vs FTSE 250

There's no such thing as passive investing in practice. Even those who shun making individual stock picks and instead use tracking exchange-traded funds (ETFs) to gain exposure to broad equity indices, are making an active allocation decision.

The most obvious example right now is the AI trade. Anyone with an ETF that tracks the S&P500 might, on paper, think they have a diversified bet on 500 blue chip American companies. They don't. They have significant AI risk.

The top eight names in S&P trackers are typically tech companies that account for around a third of the entire market between them. Nvidia alone is around 7.5% of the US-listed tracker SPY.

Here in the UK, two common choices are the ETFs iShares Core FTSE 100 ETF GBP Dist (LSE:ISF) (FTSE 100) and iShares FTSE 250 ETF GBP Dist (LSE:MIDD) (FTSE 250). Seasoned investors will know that the FTSE 250 is deemed the purer domestic UK play. The 100 is more global; it includes many firms who earn a substantial amount of their revenue overseas.

Indeed, that distinction helps explain the current dislocation between the two. The FTSE 100 (ISF) has underperformed of late. Why?

It has been dragged down by its outsized energy and mining exposure. In short, Shell, BP, Rio Tinto, Glencore etc have all struggled over the past three months and their performance has weighed.

Other explanations could include this morning's strong growth data - a more resilient domestic economy should benefit the 250 companies who generate their revenue here in the UK. And finally, there have been several mergers where mid-cap UK companies have been taken over, often by foreign buyers. That deal activity often has a positive effect on rival companies in the same space.

But eyeQ would make two observations:

• Macro relevance has risen strongly. It was below our 65% threshold for a macro regime in August; today it's at 84%. Yes, M&A activity is important but macro matters again too.
• After months of trending lower, macro momentum has staged a small bounce. eyeQ model value for the ISF/MIDD ratio has bounced 2.7% since 1 October; i.e. macro conditions have turned in favour of the 100 outperforming the 250.

Thus far, the market has ignored this subtle shift in mood music - ISF has continued to lag MIDD. But that means it now sits 3.1% cheap on our metrics and that's sufficient to fire a new bullish signal on ISF's relative performance.

Investors looking to put cash to work in UK equity indices should take note. Right now, ISF (the FTSE 100) offers better valuations from a macro perspective. 

Source: eyeQ. Past performance is not a guide to future performance.

Useful terminology:

Model value

Where our smart machine calculates that any stock market index, single stock or exchange-traded fund (ETF) should be priced (the fair value) given the overall macroeconomic environment.

Model (macro) relevance

How confident we are in the model value. The higher the number the better! Above 65% means the macro environment is critical, so any valuation signals carry strong weight. Below 65%, we deem that something other than macro is driving the price.

Fair Value Gap (FVG)

The difference between our model value (fair value) and where the price currently is. A positive Fair Value Gap means the security is above the model value, which we refer to as “rich”. A negative FVG means that it's cheap. The bigger the FVG, the bigger the dislocation and therefore a better entry level for trades.

Long Term model

This model looks at share prices over the last 12 months, captures the company’s relationship with growth, inflation, currency shifts, central bank policy etc and calculates our key results - model value, model relevance, Fair Value Gap.