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OPINION

Marvellous mid caps

Marvellous mid caps
July 15, 2016
Marvellous mid caps

This move could be interpreted as a simple effect of the weakness of sterling and a shift into dollar earners, many of which could also be classed as defensive. But something puzzled me as I scrutinised charts when compiling this month’s Coppock indicators (see page 11). In fact, before the referendum took place, the fall in the FTSE 100 before its pre-referendum bounce was just as severe as the simultaneous falls in the FTSE 250, considered a more domestically focused index. The expectation at that point – the 16th June – was that the UK would vote to leave the EU, just as the electorate eventually voted – so why was the reaction in the FTSE 250 so much more severe just a week later? And why did the defensive blue chip shares that many eventually piled into not attract similar attention earlier?

Currency could explain some of this. The weakness of the pound was much more tangible once the result was actually known rather than simply speculated upon, and thus any domestically focused business reliant on any imported goods or exposed to a weakening UK economy would suffer disproportionately. But I’m struggling with this explanation, for several reasons. Firstly, because the FTSE 250 started to bounce strongly well in advance of the bounce in sterling seen upon confirmation of Theresa May as our new Prime Minister, and the expectation that negotiations with the EU would thus be less hard line.

Secondly, I don’t buy the idea that the FTSE 250 is as domestically focused as it once was – indeed, part of the reason for the strong performance of the index in recent years was that, as well as benefiting from the strong UK economic recovery, the revenues of its constituents were becoming much more internationally diversified. In fact, it’s estimated that half of FTSE 250 revenues are earned abroad – the FTSE 100, by comparison, makes three quarters of its money overseas; in this respect the indices are not as different as the lazy narrative would suggest after all.

Some investors may have also anticipated mean reversion after significant outperformance of the blue chip index by the FTSE 250 in recent years. Yet I would suggest the FTSE 250 retains the same strengths as always and which in many ways make it a genuinely better index than the FTSE 100, not least sector diversity that does not leave it overly exposed to the whims of commodity markets or the shifting sands of financial services.