Investors advised to sell the DAX and buy the FTSE 100
LONDON: The FTSE 100, the laggard among major European indexes in recent years, looks set to turn the corner and reward investors buying beaten-down financial and retail stocks in Britain.
Some banks are advising clients to pick the FTSE 100 over the DAX in Germany, citing more accommodating monetary policy from the Bank of England than from the European Central Bank, a long period of underperformance and a weaker sterling.
The FTSE 100 gained 64 percent from 2003 to 2007, while the CAC 40 in France rose 83 percent, and the DAX jumped 179 percent.
But so far this year, Britains benchmark index has lost 8 percent, outperforming 13 percent declines in both the CAC 40 and DAX.
“Even though the present U.K. consumer environment looks bleak, we think consumer stocks have priced in a lot of the issue already,” said Mislav Matejka, head of European strategy at JPMorgan, who favors British banks and retailers.
British banks have underperformed the wider British market since July 2003, and retailers have lagged since 2004, he said.
“Its not going to be news for banks and retailers that the housing market is weakening and U.K. consumer balance sheets are stretched,” Matejka said. “Thats why these stocks have been underperforming, because they were expecting the weakness at some point to happen.”
Shares in British banks are currently valued at 7.17 times forward earnings forecasts, a substantial discount to the 11.81 multiple for 89 European banks, according to Reuters data. British retailers are valued at 15.59 times forward earnings, compared with 17 for their European counterparts.
Add the relative interest rate outlook over the next quarter, and that adds to the attraction of the FTSE 100, analysts said.
Lehman Brothers is “overweight” on British stocks “because domestically exposed sectors are attractively priced, and interest rate cuts in the first half of 2008 should act as a catalyst for performance,” said Ian Scott, the investment banks global equity strategist. He also likes European stocks with emerging market exposure.
Lehman has a year-end target for the FTSE 100 of 7,300, about 22 percent higher than its current level just below 6,000.
JPMorgan said British equities have historically performed better than their continental counterparts when interest rates fell.
A Reuters poll showed 62 out of 65 economists surveyed expected a further rate cut, from 5.25 percent, by the Bank of England by June. It cut rates by 25 basis points in December and again this month.
The European Central Bank, on the other hand, has held rates steady since the credit crisis blew up last August, keeping its focus on rising prices. Markets expect it to be much slower than its counterparts to lower borrowing costs this year.
Another investment management firm, Brewin Dolphin, was also looking for the right time to get into the British banking and retail sectors, its chief market strategist Mike Lenhoff said.
“When interest rates fall a little bit more in the U.S. and the U.K., we are going to start moving more towards some of the more interest rate sensitive areas, some of the more cyclical areas,” he said.
Morgan Stanley said a weaker sterling, which has fallen as much as 14 percent against the euro in the 12 months to January, also favored the FTSE 100.
“Large sterling corrections tend to be bullish for U.K. stocks relative to their global peers,” said Graham Secker of Morgan Stanley in a report this week. “Post an 8 percent drop in the pound in any six-month period,” he said, and “the MSCI UK index has outperformed the MSCI World index by an average 14 percent over the next 12 months.”
The broker recommended that investors buy the FTSE 100 and sell the DAX for profit in six to 12 months, noting that the German index was more cyclical in the wake of declining economic growth.
“The market may easily make a new low by falling 10 percent from the current point,” said Matejka at JPMorgan. “But in our view, the probability that the market goes up is actually higher now, as catalysts which suggest growth in the U.S. in the second half of the year might actually be stronger than what the market is afraid of right now.”
