LONDON (Reuters) - FTSE eased off 8-month highs on Wednesday after strong jobs data raised the spectre of interest rate hikes and analysts highlighted concerns about companies’ weak earnings and high valuations.
Data showed the unemployment rate dropped to 7.1 percent in the three months to November, below even the most optimistic analyst forecast and just a decimal point above the threshold where the Bank of England has said it may think about raising interest rates.
Although the strength in job creation is good news for British business, the prospect of higher rates is not, as it will increase borrowing costs for companies and consumers alike and reduce the appeal of equity investments.
“We are in the phase of the economic cycle where you are recovering with spare capacity. But at some point you will run out of slack. We are approaching that period but we are not there yet,” said Steven Bell, director of global macro at F&C Investments.
“It’s still positive for equities but we are moving into the space where the biggest trade is to be short bonds.”
Bell’s own positions include a modestly long one on global equities and a short one on British gilts, whose prices fell on Wednesday as the market moved to price in a hike sooner.
The FTSE share index, meanwhile, closed down 7.93 points, or 0.1 percent, at 6,826.33 points, holding around 40 points below Tuesday’s eight-month high and lagging euro zone’s EuroSTOXX 50.
“We expect a modest economic recovery and tend to favour the markets where the central banks are late, and in our scenario, the first central bank to tighten policy will be the Bank of England,” Ibra Wane, senior equity strategist at Amundi, said.
“That’s why, despite the fact that the economic situation is stronger than in the euro zone, this market is not on the top of our list. We would rather prefer the euro zone equity market.”
Analyst downgrades were behind most of the key single stock fallers on the FTSE as they raised concerns about the weak start to the earnings season and the stretched valuations.
Royal Bank of Scotland fell 3.1 percent after UBS downgraded the stock to “sell” from “neutral”, saying that the share price already reflected much of the progress that they think the group will make in the next 18 months.
While company-specific, such concerns underscore a broader trend of stretched valuations, with analysts saying that company earnings now need to show strong growth to justify any further gains in share prices.
So far, though, the company updates are not really delivering. Brewing giant SABMiller fell for a second day as Tuesday’s disappointing sales figures translated into price target downgrades from the likes of Credit Suisse, Exane BNP Paribas and Deutsche Bank.
Meanwhile, shares in William Hill, which issued a trading update last week, suffered after HSBC cut its price target to 350 pence, which was below current levels.
“Valuation is not compelling, given threats to earnings, and we see little to attract the marginal buyer,” it said in a note.
Overall, Thomson Reuters StarMine SmartEstimates predict that FTSE companies will on average miss consensus 2013 earnings expectations by 0.8 percent, based on the up-to-date forecasts from the historically most accurate analysts.
As such, investors rewarded companies able to deliver, with software specialist Sage Group up 3.3 percent after confirming its targets.
Editing by Gareth Jones