If a FTSE 100 stock were to achieve a £1trn valuation it would be quite a feat.
There are two members of the Footsie — Shell and AstraZeneca — that are currently vying for the top spot. Both have market caps around £170bn, although, at the moment, the oil and gas giant is slightly ahead.
But as impressive as this might be, it’s still a long way short of a 13-figure valuation.
The big five
Having said that, there are five stocks in the world that are currently worth more than £1trn — Apple, Microsoft, Saudi Aramco, Alphabet, and Amazon.
Four of these companies are incorporated in the US. In fact, 15 of the 20 most valuable stocks have listings on the other side of the Atlantic. Britain’s number one ranks a lowly 44th.
And that’s part of the problem.
US stock market valuations are far higher than those in the UK.
Take the energy sector as an example.
Them and us
According to research undertaken by Schroders, those listed in this country trade on an average forward price-to-earnings (P/E) ratio of 6.7, compared to 10.1 in the US. If Shell achieved the same P/E multiple, it would be worth £85bn more.
Some believe this differential is evidence that US stocks are overvalued. But JP Morgan has looked at a range of financial metrics, including earnings, dividend yields, and price-to-book ratios, for the S&P 500 and found that all of them are only slightly higher than 25-year averages.
The difference in P/E ratios probably reflects the poor state of the UK economy, which is struggling to deal with inflation and the after-effects of Brexit and the pandemic.
As sentiment improves and the economy hopefully returns to historical growth rates, the margin should close. International investors may also see greater value in the stock market here and switch some of their funds.
The government is also looking at ways of encouraging more investment in domestic equities.
So let’s assume that Shell will soon be valued in line with its US peers. But this would only increase its current valuation to around £250bn.
Increased profitability
To achieve the magical £1trn mark, it would therefore need to quadruple its profits.
And that seems unlikely.
In 2022, its adjusted earnings were $39.9bn, the highest in its 115-year history. The average of the forecasts of the 12 analysts covering the stock is $27.1bn (£22.2bn) in 2023, and $26.0bn (£21.3bn) in 2024.
The most optimistic ‘expert’ is expecting profits of $33.5bn (£27.5bn) in 2023, and $37.2bn (£30.6bn) the following year.
Doubts
I therefore think it would require a mega merger or takeover, a huge leap in energy prices and the dollar to remain strong, for earnings to increase four-fold. And I cannot see all three happening.
The investment case for ‘big energy’ is that demand for fossil fuels has not yet reached its peak. And that members of OPEC, the oil producers’ cartel led by Saudi Arabia, will continue to restrict the supply of oil to keep prices high.
Others suggest that the global move towards net zero will render these companies increasingly obsolete.
The truth probably lies somewhere in the middle of these two arguments, which is another reason why Shell is unlikely to achieve a £1trn valuation any time soon.
