Despite the gloomy predictions for the economy, there are and will be investment opportunities in the Irish market, writes Brian O'Loughlin
IN 1979 Ireland entered the European Exchange Rate Mechanism and broke the centuries-old one-to-one parity with sterling. This heralded the beginning of a very long road stretching over decades that culminated in Ireland becoming one of the founding members of the euro.
Investors in Irish equities throughout the decades of the 1980s and 1990s enjoyed strong returns as indicated by the large rise in the Irish equity index during these two decades.
Those investors with long memories will also recall that picking stocks in the Irish market was relatively straightforward. The two main banks, AIB and Bank of Ireland, along with CRH and Smurfit Group, accounted for the lion’s share of total market capitalisation. While private investors could spread their investments over smaller companies, only the larger stocks could absorb the investment appetite of institutional investors such as pension funds. Indeed, many private investors would have viewed many of the smaller companies as too risky, opting instead to invest most of their funds in CRH and the two banks.
Roll the clock forward to end-December 2006 and we find that the top six stocks (excluding Elan as its main market is in the US) ranked by market capitalisation were: AIB, CRH, Bank of Ireland, Anglo Irish Bank, Ryanair and Irish Life Permanent. What is most striking is how little had changed over the prior two decades, despite all the supposed changes wrought by the Celtic Tiger, with the two main banks and CRH occupying the top three slots. Furthermore, two of the next three slots are financial companies and the only non-construction and non-financial company to make the top six was Ryanair.
The end of 2006 was close to the eventual market peak and we find that the combined market capitalisation of these six stocks was €79 billion, accounting for two-thirds of the total market capitalisation. By July 2008 the Irish market had fallen sharply from its peak and the market capitalisation of the top six stocks had fallen to just €30 billion. Still, there was only one change from December 2006 in the composition of the top six constituents with Irish Life and Permanent being replaced by Kerry Group.
However, by end-December 2008 the picture had changed radically. The only financial stock to remain in the top six was AIB, with a market capitalisation of just €1.5 billion. The combined market capitalisation of the top six stocks had fallen to just €20.4 billion.
Early in the new year Anglo Irish Bank was nationalised and AIB itself dropped out of the top six. The share prices of financial stocks in all markets continue to gyrate wildly, but at the close of business last Friday, the following is the list of the largest Irish quoted stocks: CRH, Ryanair, Kerry Group, Aryzta (formerly IAWS), DCC and Glanbia.
CRH is now by far the largest Irish quoted company and, for the first time in living memory, no financial stock makes the top six. Three of the top six companies are in the food sector which does seem logical given the importance of agriculture in the Irish economy.
This week, financial shares have continued to trade wildly with percentage daily swings of 25 per cent commonplace. However, far from moving the overall market, such swings cause much smaller ripples in the direction of the overall Iseq index. At a price of €1 per share, AIB’s market capitalisation is €881 million, which would just bring it into the top six.
Speculation regarding the future of the Irish banks is intense and it is impossible to predict the eventual outcome. However, from the perspective of investors in the Irish stock market, there is no plausible scenario over the short to medium term where one or more of AIB, Bank of Ireland or Irish Life and Permanent regain their former positions.
The very survival of these businesses is in doubt and ongoing State involvement over the next three to five years seems a certainty. Even if the Irish banks avoid nationalisation, they will form a small part of the Irish stock market for the foreseeable future.
With the Irish stock market now trading 75 per cent below its peak, the destruction in shareholder wealth has been extreme. As well as the loss of wealth, dividend income has fallen off a cliff. Financial stocks have traditionally accounted for more than half the total dividends paid out by Irish companies. For 2009 and beyond financial stocks will have no capacity to pay dividends, and with dividend cuts likely for some non-financial companies, the dividend payout from the Irish stock market will be a fraction of what it was up to 2008 for many years.
After such a traumatic financial shock, many investors will exit the Irish stock market entirely. For some, the destruction in wealth will have been so severe that they will simply not have the funds to continue to invest. Despite the extremely gloomy prognosis for the Irish economy for the next few years, however, there are and will be profitable investment opportunities in the Irish market for those who still have the resources and the constitution to invest.
In the early 1980s, Kerry Group’s headquarters was a prefab building in a field in Kerry. Over two decades it has grown into a leading food ingredients company with a market capitalisation of € 2.6 billion. In the early 1990s, Ryanair was an upstart airline flying some old planes between Dublin and London. Today it is Europe’s leading low-cost airline with a market capitalisation of €4.5 billion.
While the job of investing for both the professional and the amateur has suddenly become more challenging, ultimately the potential for attractive long-term returns remain.
