FTSE 100 fairly valued at 5,900

I’ve just put together a little graphic of the market’s current valuation and a 7-year forecast of future returns, a la GMO.  I do this every month so I can see where we are and what may lie ahead.  Enjoy, and please note that the forecasts are total returns and therefore include dividends.  The yield is currently about 3.5%, so my index level (price) forecasts are about 3.5% less than in the table.

market valuation table 2012 03 01

Author: John Kingham

I cover both the theory and practice of investing in high-quality UK dividend stocks for long-term income and growth.

11 thoughts on “FTSE 100 fairly valued at 5,900”

  1. Hi John me again, I think your 7 year estimates are a bit too optimistic, do those returns include the dividend yield. As you probably know FTSE,DOW & S&P 500 have been stuck in a giant sideways trading range since the year 2000 which is termed a secular bear market, secular bears and bulls last around 1718 years, so this secular bear is only really just over half way through running its course. We are all just predicting, but on balance FTSE will still probably be at 6900 or so which is the top of the secular range by 2017/18. If you look at the current value of 5900 after 7 years a return of 2.5% would take the ftse to 6900 or so. If your figures include dividend yield it would be a return of 6%, but 8% from just the market to me seems highly unlikely.
    I will send you a chart of the last several secular bulls and bears, but on the whole i agree with your analysis, but i firmly believe this secular bear is not done yet, valuations got way out of control in 2000. the US markets had P/E’s of 40, the market is just over half way in wiping out those excesses it still has more work to do. I think a more reasonable return is 3% and perhaps with div yield 5%. I will email you my charts for your scrutiny at your email address.
    Would love to hear your feedback.

    Best Regards

    1. Hi Nasir, always good to hear from you.

      Those forecasts do include dividends, I’ll update the post to make that clear (which will make your comment about dividends look daft – sorry). So with a FTSE 100 yield of almost 3.5% at the moment that means I think the market could reasonably achieve 4.5% to 6.5% capital gains a year. I don’t think that’s too optimistic.

      I totally agree with you though that the market could be stuck below the previous highs of 7,000 due to technical investors/traders for years to come.

      If it pans out like the early 1980s then we may be below 7,000 until valuations are just impossible to ignore, i.e. FTSE 100 yields above 5% with earnings growing around 5-7%.

      All it would take then is a small amount of optimism and the market could double to 14-15,000 with no trouble at all.

      That’s about the most speculation you’ll ever get from me!

      Regarding the forecasts, they’re purely numbers based so I didn’t just make them up based on my opinion. They’re based on historic earnings growth rates and valuation ranges over many decades so I expect them to be fairly robust. Of course that’s not to say they won’t be totally wrong as the market is unpredictable, but I still think they’re as good as any other forecasts out there.

  2. All it takes is a bit of pessimistic aproach and a default in Italy and the market can halve with no trouble at all.

    I have said it.

    1. I agree that the market could halve if there was a sufficiently bad economic environment, but at that level (around 3,000) the market would be at the absolute extreme level of undervaluation, going by historic levels.

      That would be an amazing time to get in because, assuming the whole world doesn’t go up in a puff of smoke, the future returns would likely be north of 20% annualised for many years, just as they were for those who got in during the great depression.

      1. If I think like you I would by lots of Japanese stocks and expect 20% per annum. You and me know this won’t happen because of demographics. You can’t sent old people to work but you need to increase the taxes and to borrow more money to pay for their care and pensions.

  3. I don’t get why I need to use CAPE in valuing the market. This it was influenced by unrealistic valuations both in 2000-2001 and 2006-2007.

    I believe that valuations should be made in ‘economic’ terms based on cost of capital. I don’t think we will repeat the stupidities of the leveraging bubble from 2007 and if that won’t happen how corporate spending and personal spending will increase. We are in a deleveraging process something I name balance sheet recession. It will probably take more than 7 years to get to a normal level.

    One thing investors have learned from two consecutive bubbles is that they need to pay attention on valuation so your forecasts are a bit optimistic to say the least.

    My forecast, flat or nearly flat, hopefuly not worse than now.

    1. Hi Eugen, you make an interesting point and really show the difference between where I’m coming from versus you. You like to look at economic data and use that as your base for forecasting, while I don’t really understand how to forecast from economic data and so I use things like CAPE which have some academic backing as a forecasting tool, and it’s a mathematical system which I prefer to a ‘gut feel’ approach used by most economists.

      Everybody has to work with what they feel comfortable with and what they think will produce the most accurate results I guess.

  4. Hello, I’m a US investor who got to your site through gurufocus.com. If you don’t my me asking, where did you get your data on normal and exceptional levels for the FTSE 100? I know that Shiller has popularized the CAPE for the S&P 500, but I have not seen analogous info for the UK market or other European markets. Thanks, JRossi

    1. Hi JRossi, I’ve replied to you with an email because I started to waffle on at great length. The short answer is that there doesn’t seem to be an easily accessible official source of long-term earnings info for the FTSE 100, but I have a set which I’ve built up over the years going back to 1993 and it seems to do the job just fine. In fact, one other reader with access to a Bloomberg terminal said that my data tied up more closely with some charts produced by James Montier than the terminal did, so it can’t be too far off.

    2. JRossi

      Unfortunately your email bounced… not sure why. If you get this message please let me know your email address so I can reply in detail.


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