The world watches as the crisis in Greece reaches ever new heights of tension. It’s mesmerising theatre, and commentators link daily moves in the FTSE 100 to each new development in the Greek drama. Last Friday, the UK’s top index closed 6.3% down from its all-time high achieved in the spring, having flirted with a double-digit drop earlier in the week.
Greece is certainly dominating the news, and creating volatility in financial markets, but is it diverting us from a more fundamental factor that has also coincided with the FTSE 100 slump?
Nobody’s talking about the downgrades in corporate earnings forecasts that have unfolded this year. When I look at how severe these have been, I’m a little surprised the Footsie isn’t lower than its current 6,673 points. The index certainly has potential to slump further, particularly if earnings estimates continue their downward trend.
The top 10 companies of the FTSE 100 account for over 40% of the index’s weight. The table below shows the percentage change — from six months ago to today — in consensus earnings forecasts for the current year and next year.
| Company | Current year (%) | Next year (%) |
| Shell | -33.1 | -23.2 |
| HSBC | -9.6 | -13.1 |
| BP (LSE: BP) | -30.6 | -28.2 |
| GlaxoSmithKline | -13.4 | -9.2 |
| British American Tobacco | -4.8 | -5.0 |
| Vodafone (LSE: VOD) | -15.2 | -19.5 |
| Lloyds | -0.1 | -1.1 |
| SABMiller | -9.2 | -10.9 |
| AstraZeneca (LSE: AZN) | +8.7 | +9.9 |
| Diageo | no data | -5.9 |
| Weighted average | -14.2 | -12.5 |
Source: calculations based on data from Digital Look
As you can see, only one of the companies — AstraZeneca — has seen the City consensus on its earnings prospects rise over the past six months. There are some pretty hefty downward revisions among the other nine. Downgrades outweigh upgrades further down the index, too. The weighted averages in the bottom row of the table might suggest a healthy 10%-15% market correction for the FTSE 100 is in order.
Winners and losers
It’s no surprise that analysts have got through barrels of red ink in marking down forecasts for Shell and BP in the face of weak oil prices. Shell’s shares have fallen 14.4% over the past six months, but earnings forecasts for the company have fallen much further. Meanwhile, BP’s shares have actually risen by 7.1% over the period. Sure, there has been some good news and reduced uncertainty on outstanding issues relating to BP’s Gulf of Mexico oil spill, but the earnings downgrades and rise in share price have combined to crank up the price-to-earnings (P/E) ratio from 10.9 to 16.3. BP’s valuation doesn’t look appealing to me at this level, and I think the shares could be vulnerable in a market correction.
Other sectors haven’t been downgraded as massively as the oil industry. But revisions to earnings forecasts for Vodafone have certainly been substantial. Furthermore, as with BP, as earnings prospects have been downgraded, Vodafone’s shares have actually risen — by 4.8%. The P/E of the telecoms group has shot up from an already-high 34.9 six months ago to 42.2 today. With Vodafone having considerable exposure to Europe, you’d have thought the launch of eurozone “quantitative easing” in the spring to stimulate economic activity might have resulted in analysts upgrading their earnings forecasts for the company. But no, forecasts have been revised down, and Vodafone’s rating looks unjustifiably high to me.
By contrast, AstraZeneca is looking an increasingly interesting proposition. The company has been revitalised under chief executive Pascal Soriot. After several years in the doldrums, which saw analyst earnings forecasts repeatedly revised down, the corner seems to have been turned, and a trend of upgrades could be starting to appear. Despite this, Astra’s shares have weakened 6.6% over the past six months. I see Astra’s current P/E of 15.4 as attractive, because the potential for further upgrades gives the shares scope to rise, and, as the market looks forward to the company returning to earnings growth, it could also command a higher P/E.
