Will Rising Interest Rates Collapse the FTSE 100?

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Things are looking less pleasant for the owners of FTSE 100 Currently in stock. In February, the Footsie Index reached a lifetime high. This week, the London market is having its worst five days since March. So what are the owners of UK shares worried about?

FTSE 100 went down

At its all-time, intra-day high on February 16, the blue-chip index briefly touched 8,047.06. As the market closes on Friday as I write, the footsie is hovering around 7,463.34.

Therefore, the UK’s main market index has fallen by around 7.3% from its lifetime peak. Here’s how it fared over seven other periods:

Although the index has shown some weakness recently and is barely in positive territory for 2023, it is up more than 6% over 12 months. This annualized return becomes 10% when cash dividends are added, which is fine for me.

storm clouds are rising

Unfortunately, the UK economy will face sharp headwinds over the next 12-18 months. Economic growth is slowing and the prospect of a recession is increasing. Meanwhile, skyrocketing inflation and skyrocketing energy bills have hit disposable income.

But one thing that really bothers me is the rising interest rates. As the Bank of England raised its base rate to curb future inflation, life became more expensive for homeowners, other borrowers and businesses. At 5% per annum, the base rate is now at its highest level in 13 years.

Worse, five-year fixed-rate mortgages are inching toward 6% per annum, while two-year fixed rates are already at 6.2% per annum. This means millions of home owners will face painfully high loan payments in 2023/24.

Could this cause a stock market crash?

As a veteran of the October 1987, 2000-03, 2007-09 and spring 2020 recessions, I’ve seen my fair share of market crashes. But I’m not expecting London stocks to drop drastically in the near future.

While it is true that the FTSE 100 is loaded with rate-sensitive stocks, particularly large banks and financial firms, I do not think the market will fall as much as house prices in the UK could fall. This is because approximately 70% of Footsie’s earnings come from overseas, making it more global than the local index.

Also, historically and geographically, footsie strikes me as very cheap. It trades at a forward price-to-earnings ratio of 10.7, for an earnings yield of 9.4%. This is a very low rating as compared to other major equity markets.

In addition, the FTSE 100’s forward dividend yield of 4.2% per annum is significantly higher than the cash yield of comparable markets. Even better, this payout is covered 2.2 times by earnings, providing a solid margin of safety.

In short, to answer the question in my title: I No Rising interest rates are expected to crash the FTSE 100. Of course, there may be more, but I’m afraid I’ve just lost my trusty crystal ball!

The post Will Rising Interest Rates Collapse the FTSE 100? First appeared in The Motley Fool UK.

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