But before analysing the FTSE All Share Index in terms of its constituent parts – let us consider what it actually represents. We believe the one thing it does not represent is the UK economy.
The FTSE, like any index, is largely an accident of history, dependent on where many, now global companies, are domiciled. Due to the sheer size of some of the mega capitalisation companies in the UK and the fact that most indices are constructed in terms of market capitalisation, concentration can be a real issue. At times, the top 20 stocks within the FTSE 100 Index represents two-thirds of the index. In addition, within these concentrated benchmarks there are many companies which arguably are substitutes for each other, pairings include: Shell and BP, Glaxo and AstraZeneca, BHP and Rio Tinto. At one point it may make sense to own some or all of these companies, but it is unlikely that it would make sense to consistently hold all of these companies through each market cycle.
The dispersion across sectors is represented in extremis, with basic materials down 40 per cent and technology up 20 per cent. These returns have little to do with the fortunes of the UK. Fears that China may stall along its mesmerising growth trajectory has impacted the former and in the case of the latter, an on-going global secular growth trend within many sub-sectors such as “big data”, mobile payments and cyber security continues to gain momentum.
In this environment, many active managers have flourished having the discretion to avoid the sectors facing severe macro headwinds. Oil at around US$40 a barrel has hindered not just the oil majors but to an even greater extent the service and support industries. Commodities have been whiplashed as China pauses and financials have been flattish, albeit with a lot of stock specific noise. Even healthcare has struggled to show meaningful upside through their R&D pipeline. Separately the household names within these sectors: Shell, HSBC and Glaxo are under pressure to maintain their higher yielding status. The relative outperformance in 2015 has been driven more by what you don’t own than what you do.
The successful areas of the market have been small and mid caps as well as consumer sectors. There continues to be evidence of the consumer exerting their presence and parts of the “old” economy struggling - we only have to look at the pricing strategies of Poundland and Amazon which threaten many of the UK high street retailers. Low-cost providers and internet vendors are also affecting motor insurance, banking, gyms, DIY retail, gambling and, of course, supermarkets.
Meanwhile, despite the issues within the equity market the UK economy is doing well and appears to be embarking on the start of a growth phase. It is one of the few G7 economies that should be able to relatively easily withstand the forecasted interest rate hikes. Yet ironically, the unexpectedly large Conservative majority in the elections coincided with an almost consistent decline in the FTSE All Share Index.
So if you are bullish on the UK, how can you participate in the upside in 2016?
Our view is that 2016 is likely to mimic 2015 with stocks having to work hard to justify their position in a portfolio. It is likely to continue to be a stock picker’s market with dispersion and therefore opportunities across sectors, capitalisations and individual stocks.
Richard Penny is a senior fund manager, high alpha team, of Legal & General Investment Management