Interactive Investor

Time to switch from FTSE 100 to FTSE 250?

16th May 2023 15:52

by Graeme Evans from interactive investor

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Many global stock markets have been rangebound in recent weeks and even months. Our City writer explains why and what one expert thinks of the two big UK indices.

Big moves for shares in Vodafone Group (LSE:VOD) and Rolls-Royce Holdings (LSE:RR.) today masked another directionless session for the wider FTSE 100 index as the malaise in global stock markets continues.

The recent paint-drying performance of various headline benchmarks has seen Wall Street’s S&P 500 index stuck in a range of 1.5% over the past week and 3.5% in the last month.

It’s been a similar trend for the FTSE 100 index, which is currently 1% lower over the past month and today spent most of Tuesday’s session tip-toeing between 7,762 and 7,804.

Traders are opting to stay on the sidelines until they know more about whether central banks really are at the end of their rate tightening cycles.

There’s another month to wait until the next decision by the Federal Reserve, by which time policymakers will have further readings on inflation, unemployment and earnings.

The current stand-off over the US debt ceiling is another cautionary factor for Wall Street investors. Talks between Joe Biden and congressional leaders take place today, but no one is expecting progress until nearer the 1 June deadline by which time Congress must act or risk a default.

The nearly completed first-quarter earnings season in the US has offered some support to valuations, but not enough to shake off fears over the future impact of tightening credit conditions in the wake of the regional banking crisis.

The lagged effect of the Federal Reserve’s most aggressive monetary policy tightening cycle since the 1980s has also fuelled recession fears for later in the year.

If there’s a soft landing for the US economy, UBS sees a 7% potential upside for the S&P 500 to 4,400 but a recession outcome could mean a 20% downside to 3,300.

The Swiss bank added: “Given the asymmetric skew, we have a least preferred view on US and global equities, especially in an environment when fixed income offers a competitive return.”

It notes that mega-cap US technology stocks have been the most crowded trade for investors, with the FANG+ index tracking the top 10 most companies up 43% so far in 2023.

This means the breadth of the US equity market has fallen to multi-decade lows, masking the weaker performance and lower investor conviction in smaller constituents.

There was some cheer for UK-focused stocks last week when the Bank of England said it no longer expects the economy to enter a recession this year.

UBS’s UK strategist Caroline Simmons said this had led to questions from investors about whether now is the time for the FTSE 250 index, which has a 50% domestic sales exposure, to outperform the more internationally focused FTSE 100 benchmark.

Her response is that they should continue to favour the more defensive FTSE 100, which has exposure of about 30% to cyclical sectors compared to 50% for the FTSE 250.

Simmons adds that the large-cap index also has a 20% weighting to the defensive consumer staples sector, one of UBS’s most preferred sectors globally.

She said in a note published today: “We believe the FTSE 100 is likely to continue to outperform the FTSE 250 in the near term.

“It has better short-term drivers for its earnings and trades more cheaply at a 12-month forward price/earnings (PE) multiple of 10.6 times, which compares to the FTSE 250’s 11.4x.”

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