FTSE 100: How and why did it underperform until 2021, only to start outperforming in 2022?

Despite being one of the world’s largest and most quoted stock market indexes, the FTSE 100 has been underperforming in recent years, relative to its peers, but has since outperformed the S&P 500 in 2022. So let’s talk about how - and why - this is happening - and whether now’s a good time to invest in a FTSE tracker funds.

How has the FTSE 100’s performance been an outlier in the last five years or so?

2021 was an exceptional year for the markets - but the FTSE still didn’t reach a record high.

That was reached in the tumultuous year of 2018, when the index reached a record high of 7877.45 on May 22nd, despite falling by 12.5% that year. In contrast, more than four years later, on July 29th, 2022, the FTSE was trading at 7,423.23 - 94.2% of its record high (although we are experiencing a bear market).

Comparing this to the S&P 500, which reached a record (intraday) high of 4,818.62 on January 4th 2022 - before falling to 3,749.63 on June 12th, 2022 - its lowest level since March 2021. That's still significantly higher than the index's performance at any time before the pandemic, however.

Five-year annualised returns have poor for the FTSE

The FTSE’s total (annualised returns in the past 5 years (July 30th, 2017 to July 29th, 2022) have been just 1.18%, compared to 577.13% since the FTSE's inception in 1984.This is obviously not a great return, particularly when inflation has rocked to 9.4% in the UK. But five years is still a short-to-medium term time frame - and the FTSE 100 has had plenty of ups and downs before, like any index.

For example, after reaching a (then) record high in late 1999, the index plunged to roughly half its value (below 4,000) in 2003. It only took four years for it to nearly double in value, just before the global recession took hold in 2007-2008. During that crisis, it fell below 4,000 again, before almost doubling in value by mid 2015.

The FTSE’s 10-year annualised returns are also poor

10 years is a far more useful performance indicator for investors, because it is long enough to weather short-term volatility and allow compounding to work its magic during the bull markets. You’d reasonably expect any global index to deliver pretty decent annualised returns in this timeframe - even if there has been a recession at some point (the UK usually has at least one recession in any 10-year period). But the FTSE 100 has only delivered annualised returns of about 2% in the last 10 years. That is not the norm.

How does the FTSE’s 10-year returns compare to the S&P 500?

The S&P 500's average (annualised) returns in the last decade has been about 15%, which most investors would consider to be a decent rate of return. That’s more impressive when you consider the fact that interest rates were exceptionally low throughout the 2010's and - right up until early 2022. Historically, the S&P has ‘only’ delivered average returns of 12.5% for each 10-year period.

Brexit is seen as a key factor for the FTSE’s poorer longer-term performance

Since the Brexit vote, the UK's market has underperformed most other major markets, due to the economic uncertainty surrounding the country's EU departure. The FT reported that almost half of FTSE 350 said their post-Brexit trading arrangements had been 'damaging'.

Although the index did fall sharply in the wake of the Leave result on June 24th, 2016, it quickly rebounded; three months later it was over 10% higher. But this is because sterling also weakened after the Brexit vote, which often benefits the FTSE. How? Well, since a large volume of FTSE-listed companies’ profits are made in dollars, they are worth more when converted into sterling when our home currency is weaker.

Energy stocks also have a bigger impact on the FTSE

They were doing poorly until 2022. In 2020, energy accounted for 14.39% of the FTSE index in 2020, but this was when lockdowns reduced the demand for energy, pushed the price of oil down, and even led to a short trading war between Russia and Saudi Arabia, which depressed the index further.

The FTSE 100 has been outperforming S&P 500 in 2022

While 2022 is shaping up to be one of the worst years on record for the stock markets, the FTSE 100 has come off relatively lightly compared to other indexes. In the TYD as of July 30th, 2022, the index 'only' lost 1.09%, whereas the S&P 500 lost 13.9% in the same period.

Why this sudden change for the FTSE?

It holds a higher proportion of energy stocks

As we alluded to earlier, in 2022, the energy sector has outperformed the rest of the markets by a wide margin. Energy stocks represent over thrice the proportion of the FTSE 100 compared to the S&P 500, which means activity in the energy sector is likely to have a bigger impact on the UK index.

The FTSE has a much lower proportion of tech stocks

Much of the stock market's growth in 2021 was fuelled by the U.S tech stocks boom. Many such companies have endured a harsh reality check in 2022 - with share prices plummeting, 1,000s of layoffs, and balance sheets in the red because of too much money spent on hiring last year.

Should you invest in The FTSE 100?

• Is it a good time to ‘buy the dip’, if you anticipate that the FTSE 100 will ‘correct’ itself and deliver much better returns in the next 10 years?
• Is the index no longer a safe bet for long-term investors looking for decent annualised returns?
• Could it be prime time to start investing in FTSE tracker funds?
• Does the index have further to fall as the UK economy remains vulnerable to the cost-of-living crisis, Brexit uncertainty and the threat of a national strike?