A Mixed UK Outlook For 2016, But FTSE 250 Outperforms Again

A Mixed UK Outlook For 2016, But FTSE 250 Outperforms Again

CMC Markets  | Dec 22, 2015 12:03

2015 has been a disappointing year for the UK benchmark with the FTSE100 once again being held back by its heavy weighting to mining, oil and gas and banking stocks which have caused it to lag behind its peers in Europe like the German DAX, which has so far managed to post some gains, though we’ve slid back sharply from the highs of 20% seen earlier this year, while the FTSE 250 has also done well, up over 5%, due to its much higher exposure of more UK focussed companies.

The sharp declines in metals prices to multi year lows have seen the market capitalisation of companies like Glencore (L:GLEN), Anglo American (L:AAL), BHP Billiton (L:BLT) drop sharply with the shares of Glencore and Anglo American down over 70%, while even the more robust mining companies like Rio Tinto (L:RIO) haven’t been spared, down 25%, as slowing demand and a strong US dollar weigh on sentiment.

The problems of the banking sector have continued with the baton of worst performer being picked up by Asia focussed bank Standard Chartered (L:STAN), with declines in excess of 30% prompting the bank to announce the loss of 15,000 jobs and a $5bn rights issue in November, as the bank wrestled with a slowdown in China and its other Asia focussed markets. The recent decision by the Federal Reserve to nudge interest rates up might improve margins for the more internationally focussed banks but there is a concern that higher US borrowing rates could also cause problems for over leveraged basic resource firms as US dollar loans become more expensive to service.

Six years on after being bailed out Royal Bank of Scotland Group(L:RBS)’s fortunes still remain no nearer to becoming clearer with another disappointing year.

The continued decline in oil and gas prices has also hit those dividend stalwarts of Royal Dutch Shell (L:RDSa) and BP (L:BP) as both companies have striven to cope with a 50% fall in headline prices in the last 12 months. The decision by Royal Dutch Shell to pay $70bn for BG Group (L:BG) was hailed as a brave decision when it was announced earlier this year, but the price of the acquisition is increasingly being questioned at a time when oil prices look unlikely to return to the levels of $70 a barrel required for the deal to make sense in the long term.

Those investors looking for an end to the woes of the food retail sector were destined for disappointment with Tesco (L:TSCO) and Morrison Supermarkets(L:MRW)continuing their slow decline with Morrison’s eventually suffering the ignominy of dropping out of the FTSE100.

There were plusses for investors which is just as well, with stock broker Hargreaves Lansdown (L:HRGV) leading the pack, up over 40%, as more UK investors took ownership of their finances by opening on line accounts, while house building stocks also performed well with the various measures being implemented to support the housing market and augment the stock of housing boosting valuations.

Best performers here include Taylor Wimpey (L:TW), Berkeley Group (L:BKGH) and Persimmon (L:PSN) all showing gains in excess of 25%, but there is a longer term concern here that while the companies aren’t likely to be short of work in the medium term, there growth could well be constrained by a lack of skills.

With unemployment at multi-year lows and skills shortages unlikely to be plugged quickly unless by immigration, then the ability of house builders to build the houses required is likely to be constrained, not by money, but by head count.

The big question as we head into 2016 is whether we can see further gains in a sector where recent price moves are starting to look a little stretched. This is clearly visible on a long term weekly chart of price action relative to the long term averages, where prices are between 50% and 70% above their long term averages.

Also doing well this year we’ve seen travel and leisure perform strongly helped by the low oil price and it seems likely that this could continue into 2016 given that oil prices are unlikely to jump sharply in the short term, while other consumer discretionary plays have also done well.

The telecoms and media space has seen good gains this year with BT Group (L:BT) and Sky posting decent gains as UK consumers have finally seen the income squeeze of the last few years ease, both posting gains in excess of 20% as both providers add new content to their various triple play bundles and move into quad play, also helped by the recent woes of Talk, down over 25%.

Also having a good year brewer SABMiller (L:SAB) has reaped the benefits of sector peer Inbev (L:0O1Z) paying up heavily to the tune of $100bn in a highly questionably priced deal to gain access to markets it currently doesn’t have access to, namely the African market. Given that the company can probably make cost savings of around $2bn, and regulatory requirements could well mean divestments of parts of its European and US businesses, these are only likely to clawback a few billion at most. Therefore while the deal makes sense from a global reach perspective the price tag certainly does not. A net cost of $90bn seems a rather rich price tag to become the world’s number one beer provider, in a market where global beer drinking habits are starting to plateau as craft beers become more popular.

As we look ahead to 2016 you could take a slightly contrarian view and argue that after four years of declines for the commodity sector that a rebound is long overdue, in both mining and banking stocks but this has its risks, given that it could take some time for the current oversupply problems to work themselves out. It’s also worth remembering that trying to catch a falling knife can be dangerous.

On the other hand the current trend for house builders is likely to remain positive given the government’s commitment to build more new homes. The risk is whether we've seen the bulk of the easy gains, or whether there is the prospect of significant further upside, given that since 2011 we’ve seen gains in excess of 300%.

On the FTSE250 the best performers have come from a broad range of sectors, housing, food and retail showing that if companies offer something of value then demand is likely to follow.

The performance of Domino's Pizza (OTC:DPUKY) and Greggs (L:GRG) speaks to that demand, while Ted Baker (L:TED) and Supergroup (L:SGP) have outperformed the retail sector, though Supergroup’s recovery does need to be viewed through a prism of a difficult 2014.

On the flip side of the retail story, Home Retail Group Plc (L:HOME), Ao World (L:AO) and Poundland (L:PLND) have had a year to forget, as has Jimmy Choo, now trading well below its IPO price, as the slowdown in Asia and increased competition prompts increased scrutiny of the firm’s margins.

Cineworld Group (L:CINE) has also reaped the benefits of a blockbuster year for cinema, as well as a UK consumer that has benefited from low inflation and some above inflation pay increases.

Like this year the outlook for UK stocks could well remain mixed in 2016 which means that investors will need to remain nimble and look for value in sectors that are likely to remain fairly robust in an increasingly low growth world. Companies with sustainable dividend policies are likely to be in demand and who knows, if commodity prices show signs of a base maybe we could see a rebound there too after four years of declines?

The material (whether or not it states any opinions) is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by CMC Markets or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

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