MARKET COMMENT
A Sign Of A Cheap Market

By Maynard Paton (TMFMayn)
January 29, 2003

At 3,490, the FTSE 100 is now at a level first witnessed nine years ago. The question everybody's asking then: is the market cheap?

One common 'market value' measure is the relationship between the yield available from government bonds and that from the market. If shares can provide an income (via dividends, which tend to rise over time, but aren't guaranteed) equal to that from gilts (which have static payouts, but are reliable), then the market can be said to be cheap.

At the moment, 10-year gilts offer a yield of 4.2% and the FTSE 100 offers a dividend yield of 4.0%. On the face of it then, shares look very good value. You have to go back to 1974 and the depths of the previous bear market to find a time when equities last provided a yield so close to that on offer from gilts.

Accounting for 54% of the FTSE 100 index, here's how the ten largest UK shares presently stand:

Company               Share     P/E    Yield   Dividend   FTSE 100
                      Price                     Cover     Weighting

BP                     363      14.1    4.29    1.66        9.69
Vodafone               112      18.3    1.42    3.86        9.12
GlaxoSmithKline      1,050      13.6    3.75    1.97        7.57
HSBC                   641      14.1    5.24    1.35        7.23
Royal Bank of Scot.  1,295       9.0    3.35    3.33        4.47
Shell                  354      14.9    4.31    1.55        4.17
AstraZeneca          1,836      15.8    2.44    2.59        3.80
Barclays               334       8.5    5.49    2.14        2.62
Lloyds TSB             375       7.8    9.32    1.38        2.50
HBOS                   549       9.5    5.35    1.96        2.48

In fact, if you were to construct a weighted 'FTSE 10' index comprising of just the above shares, the forward price to earnings ratio would be 13.7 and the prospective dividend yield would (again) be 4.0%. Hardly a demanding valuation.

Of course, there are worries over corporate profits and dividends. In the short term at least, a weak dollar and a few delicate balance sheets in the financial sector could spell trouble for some companies. However, what with an oil crisis and raging inflation, there were undoubtedly concerns over future profits and dividends in 1974 too. And yet the stock market still pulled through.

While the fate of an individual company is never certain, collectively at least, their profits and dividends do increase in value over the long term. Remember, the history of capitalism shows that the dominant forces in the FTSE 100 -- oil, banking and pharmaceuticals -- are proven wealth creators.

More: Signs Of A New Bull Market

The author owns shares in GlaxoSmithKline.