City Comment: What to do amidst new-found harmonic bliss?
Mon, 16 Apr 2012 | by Kevin Lapwood and Caroline de La Soujeole, Seymour Pierce
We started the new quarter in a state of harmonic bliss and tranquillity. The 2011 results came and went and, despite the threat to the industry at the end of 2011 by the prospect of imminent global economic meltdown, the news was broadly good.
Contractors flooded back to work in January and there were, for the most part, jobs for them to go to. Permanent placements limped along without much help from the financial services sector, but other sectors rallied. Results for 2011 were a touch ahead of expectations, particularly in temporary recruitment, IT and engineering.
Although there is still significant uncertainty and the outlook for growth in the first half of this year could be a bit weaker, life is not as bad as once feared. In short, stock markets realised that there was no need to panic in November or December, so they heaved a sigh of relief and share prices raced up.
In the first quarter of this year, the Seymour Pierce UK staffing index rose by 32.7%, having fallen by 8.5% in the previous quarter and by over 50% in the previous six months. The moves, both down and up, were led by the larger stocks, with a more subdued performance from the smaller quoted companies. Investors appear increasingly confident that an upwards trend has been established and that new cyclical highs beckon. This has pushed valuations up to near record levels as investors, always ahead of the curve, look forward to potential earnings growth in the longer term rather than focus on the rather weaker prospects in the near term.
On our estimates, investors are currently paying an average of 18 times this year’s earnings for recruitment companies, compared with a more normal 15 times. The problem with this, as we have seen before, is that it leaves no room for error. Investor sentiment is transient and fickle. Retribution can be brutal. Companies that show any signs of flagging in the prevailing economic headwinds will be jettisoned.
So what should we do now? My colleague Caroline de La Soujeole and I have thought about tossing a coin but it seems such a waste of her highly tuned analytical abilities, and in any case we are a bit short of coins due to the dire situation in financial services mentioned above. Despite the euphoria elsewhere, we prefer to stay on the sidelines.
Yes, the good times will return and many UK quoted companies are well placed to benefit when they do. However, a return to pre-2008 levels of profitability still seems some way off and is largely already discounted in current share prices. The value is in the smaller, specialist end of the market.
Kevin Lapwood, head of support services equity research, and Caroline de La Soujeole, support services analyst, Seymour Pierce