It is often noted that the FTSE100 is not a barometer of the UK economy given the amount of overseas earnings of those businesses. Certainly investment markets have been focussing on the Magnificent 7 and anything AI-related over the past year. This has impacts on all parts of the global market, especially as fund flows are so driven by passive index trackers.
The chart above, originally from Behmaram (2024) and shown to us by FairHill Capital shows the highly indexed companies (IXI) have outperformed less indexed companies by 325% over 20 years which coincides with a low interest environment and this significant increase in passive ownership. This outperformance when adjusted for fund flows suggesting the most outperformance of large heavily-indexed companies comes from fund flows and there could be a reversal.
Abrdn (or Aberdeen as they have now re-re-branded themselves), the global asset manager, was recently reported to state that small UK companies are the ‘most unloved in the world’ with the Price to Earnings ratio (P/E) nearly 25% below its 10 year average. The P/E ratio is an important valuation tool used to compare different businesses with each other and with the historical trends. This sentiment and the above mentioned demonstration of fund flows impacting trends is detrimental to the UK economy in many other ways. It means that investors focus more on the larger opportunities and that access to finance tightens for some of the fantastic smaller companies. This has potential ramifications as it leads to less investment into smaller UK public markets and that leads to fewer companies looking to IPO here. This has a detrimental impact on the UK private markets as private equity, a key component to the growth engine, do not have such an obvious route to an exit. This further tailspins into lower demand for businesses and tighter financial markets for SMEs. In our opinion, this actually leads to a rise in alternative financing, such as the type we provide - where alternative routes to boost growth are used, such as venture debt.