The FTSE 250 index is often misunderstood — but for those in the know, it can be a source of profitable opportunities.
For one thing, many people are mistaken about the companies that it contains. They know what the FTSE 100 is — the UK’s hundred largest publicly quoted companies — and imagine that the FTSE 250 is the UK’s two hundred and fiftieth largest publicly quoted companies.
Wrong. The FTSE 250 is actually the next two hundred and fiftieth largest companies, after the FTSE 100. Together, they make up the FTSE 350.
Smaller size, tighter focus
Which leads to the next mistake that people make regarding the FTSE 250. Because it’s the next two hundred and fiftieth largest publicly quoted companies, these are actually companies that are very different in nature from those of the Footsie.
They’re smaller. Often a lot, lot smaller. And they’re generally very UK-focused. Which is where the opportunity for profit starts to creep in.
Think about the FTSE 100 for a moment. As an index, it’s market-weighted by market capitalisation. So the index isn’t an arithmetic average of all those one hundred companies — it’s an average, alright, but one in which the largest companies have far more weight than the smallest companies.
And what common factor links giant businesses such as Shell, BP, GSK, HSBC, Unilever, AstraZeneca and others of that ilk?
The answer: massive overseas earnings. They’re giant global businesses, in short. Last time I looked, for instance, less than 5% of HSBC’s global earnings came from its UK business.
Whereas the companies in the FTSE 250, as I’ve said, are very much UK-focused. They might well have overseas earnings — and many, in fact, do — but on nowhere near the scale found in the upper reaches of the FTSE 100.
Chalk and cheese
So how does all this herald an opportunity?
Well, for one thing, the stock market views the companies in the two indices very differently.
Take size, for instance. FTSE 250 companies are viewed as small, nimble, and fast-growing. Footsie companies? Well, as savvy investor Jim Slater once remarked, elephants don’t gallop. For those looking for growth, the FTSE 250 is where to look. Steadier, more predictable earnings? The FTSE 100.
Take risk. FTSE 250 companies might be small, nimble, and fast-growing — but because they’re largely UK-focused and smaller than Footsie companies, they’re seen as less resilient, and therefore riskier in adverse economic conditions.
Performance gap
All of which means that the fortunes of the two indices can deviate markedly from one another. As is the case right now, as it happens.
The FTSE 100’s high point of the year was on 10 February, when it closed at 7,672. As I write these words, it’s standing at 7,474 — in other words, a fall of 2.6%.
The FTSE 250, though, hit its high point earlier, right at the start of the year, on 4 January. Since then, it’s fallen 19.3%.
That’s quite a difference.
And, of course, you don’t have be a genius to see that an index made up of smaller and largely UK-focused companies isn’t going to perform as well as very much larger global companies if investors think that the UK is headed for a recession. And a recession, what’s more, that — by all accounts — is shaping up to be steeper and longer than the recession that the global economy as a whole is likely to experience.
For bargains, head FTSE 250-wards
None of this, though, is new or revolutionary. For those who look for it, it’s what we usually see at times like these. Simply put, the FTSE 250 undershoots the Footsie on the downside — when times are bad — and overshoots on the upside, when times are good.
The bottom line? For the time being, the stock market’s real bargains are far more likely to be found in the FTSE 250 than the FTSE 100.
Happy hunting!
