The FTSE 100 Index cheered investors in 2010 with better-than-expected growth of about 9%, although there are fears that the coming year could be much more difficult for the London market.
The top flight finished near to a two-and-a-half-year high at 5899.9, despite a tempestuous year that included the bail-outs of Greece and Ireland, the formation of a new coalition government and a major disaster involving BP, its biggest constituent and leading payer of dividends.
The performance of the FTSE 250 Index was even more impressive as the second-tier – seen as more representative of the UK economy – rose 24% in the year, reflecting the recovery of British companies following the recession.
But as investors brace themselves for 2011, the austerity drive facing the UK and global economies has raised doubts as to whether markets can continue to grow at the pace of 2010, leading some commentators to fear the FTSE 100 Index will make little progress in 2011.
Michael Hewson, an analyst at CMC Markets, is not expecting the top flight to show much growth in 2011.
He added: “The FTSE 100 won’t get much above 6000, which is not much higher than where it is now, and if it does it will be due to Asian growth.
“This year was better than expected but it’s hard to see where the growth will come from. There’s a lot of tail risks with respect to 2011 because there’s a lot of uncertainty about the UK and European economies.”
The index, which makes two thirds of its profits overseas, has been driven over the past year by the growth of the Chinese economy, said Mr Hewson.
But there are mounting expectations that China’s double-digit economic growth could slow after it ramped up interest rates by a quarter of a point on Christmas Day in an attempt to put the brakes on inflation, which currently stands at 5.1%.
A slowdown in the Chinese economy might cause commodity prices to fall and would have big ramifications for many blue-chip companies.
The index’s growth over the past year has been largely driven by the strong performance of miners such as Fresnillo (up 111%), Antofagasta (up 62%), and Rio Tinto (up 32%), whose share prices rise and fall with the price of the commodities they produce.
Weir Group, which sells pumps to the mining and oil industry and is also affected by commodity prices, was the FTSE 100 Index’s biggest winner of the year, up 148%.
Manoj Ladwa, a senior trader at broker ETX Capital, said: “Mining stocks, which have led the market up this year, could lead it back down again in 2011.”
He predicts the FTSE 100 will grow in the early months of 2011 but fears it could fall back again if a slowdown in China’s growth has knock-on effects on the global economic recovery and causes bubbles to burst in the commodities and equities markets.
Disaster-struck BP held back growth over the past year as the Deepwater Horizon oil spill in April caused its share price to drop by nearly a half, although it has now recovered to within 70% of its 2010 peak.
The company, which suspended its dividend payment following the calamity, is selling assets to raise $20bn (€15bn) as it looks to meet costs associated with the Gulf of Mexico disaster.
Hopes that BP could deliver a boost to the index in 2011 were dealt a blow in December when the US Department of Justice lodged a civil lawsuit against the UK-based giant, causing its share price to take a further hit.
Banking stocks are also expected to lend little support to the FTSE 100 Index next year and will remain “sickly” according to Mr Hewson.
The big four banks in the top flight helped the index grow over the past year, as part-nationalised Lloyds and RBS staged a recovery with share price growth of 30% and 34% respectively.
But the sector will remain weak next year because of its exposure to bad debts, particularly in the eurozone, according to Justin Urquhart-Stewart, a director of Seven Investment Management.
There were some big shocks for the FTSE 100 Index in the year and analysts are nervous that more unforeseen events could derail the market’s progress in 2011.
Following a strong start to the year, worries over the Greek debt crisis and the general election in the UK combined to knock 17% off the market’s value in the second quarter.
After Chancellor George Osborne’s emergency budget in June the market rallied strongly until November when concerns over the fall-out from Ireland’s economic crisis knocked 6% from the index.
But December delivered a stronger than expected “Santa rally”, which lifted the market by as much as 8% at one stage, helping it break through the 6,000 barrier on Christmas Eve.
However the market slipped back again after Christmas, including a drop of 71 points or 1.2% today.
December may have delivered a boost to the market, but with worries still hanging over Spain, Portugal and Belgium the eurozone could deliver further shocks to the system in the new year, added Mr Hewson.
Closer to home, the government’s budget cuts, which will start to bite in 2011, and the hike in VAT from 17.5% to 20% on January 4 are expected to put the UK’s recovery under pressure.
Despite all the doom and gloom, some analysts remain optimistic about its prospects, providing there are no other disasters.
Mr Urquhart-Stewart predicts the index will hit 6,600 by the end of next year, which would represent an 12% rise, but warns the Footsie’s growth will fall off if China’s economic boom starts to slow.
Richard Hunter, head of UK equities at Hargreaves Lansdown, reckons the index will get to 6,500 by the end of the year, particularly if interest rates stay low, which will make it more attractive to invest in companies that are paying decent dividends.
The FTSE 250 Index delivered a stellar performance in 2010 but analysts doubt it can maintain this pace of growth. Its 2010 rise was partly an adjustment after its value fell drastically in the recession amid gloomy forecasts for the UK economy.
Its resurgence reflects growing confidence in its constituents, most of which have emerged stronger from the recession, having reduced debts, cut unnecessary costs and are well positioned to take advantage of the growing economy.
But the UK consumer will be hit by the government’s spending cuts and continuing inflation which will lower spending power in 2011 and could impact on the FTSE 250 Index, according to analysts.