Royal Mail could be returned to sender in latest FTSE 100 reshuffle as Hiscox looks to hit the heights

Russ Mould
27 November 2018

“We have already had one change to the FTSE 100 during the final three months of the year, since oil services and equipment specialist Wood re-entered the index following Comcast’s successful bid for Sky and it looks like we might get at least one more after the final FTSE 100 reshuffle of the year on 4 December,” says Russ Mould, AJ Bell investment director.

“Royal Mail’s £3.4 billion valuation leaves it ranked 115th in the market capitalisation rankings and below the 111th spot which means automatic relegation to the FTSE 250.

“There are a few days to go yet but non-life insurer Hiscox looks poised to enter the FTSE 100 for the first time, following in the footsteps of fellow Lloyds syndicate manager Amlin, which briefly featured in the UK’s premier index in 2008-2009, a good while before its acquisition by Japan’s Mitsui for £3.5 billion in 2016.

“Other names within a few hundred million pounds’ worth of automatic demotion and hoping to do enough to avoid the drop include recent entrant Wood, Rightmove and Just Eat, while those jockeying for promotion include Spirax-Sarco Engineering and life fund consolidator Phoenix Group.

Changes so far in 2018

“It has been a relatively quiet year for changes to the FTSE 100, with just seven promotions and deletions so far. 

“Firms have swapped places thanks to the scheduled quarterly reshuffles, by dint of their market valuations on just three occasions. Royal Mail replaced Hammerson in March and Ocado and GVC took over from Mediclinic and G4S in June. There were no changes after the September reshuffle, the first time that had happened since March 2006.

“Corporate events have then seen four further changes. Worldpay’s merger with America’s Vantiv saw it gives way to Evraz, Melrose took GKN’s place after their hard-fought bid battle, Rightmove replaced Old Mutual as the insurance giant broke itself up and then Wood replaced Sky once Comcast had beaten off Walt Disney and acquired the broadcaster.

Potential entrants in Q4 2018

•    Hiscox looks to be the most likely beneficiary of Royal Mail’s fall from grace. One of the oldest members of Lloyds of London, Hiscox runs Syndicates 33 and 3624 on the London Market and underwrites catastrophe insurance. It also provides property and marine insurance and, through its retail operations, offers coverage for business risk, property and specialist areas such as vintage cars and fine art of individuals and small and medium-sized businesses.

Hiscox would follow in the footsteps of fellow Lloyds syndicate underwriter Amlin, which runs Syndicate 2001. Amlin joined the FTSE 100 in 2008 before dropping out again in 2009. In 2015, Amlin received a successful bid from Japan’s Mitsui and was delisted from the FTSE 250, adding to a list of Lloyds bids targets that included Beazley, Brit, Catlin, Chaucer, Hardy Underwriting and Omega.

Potential departures in Q4 2018

•    Only Royal Mail is currently booked for automatic demotion to the FTSE 250 on the basis of its market capitalisation, just nine months after its return to the FTSE 100, when the letters-to-parcels group replaced real estate investment trust Hammerson.

This would represent Royal Mail’s second demotion. It first entered the FTSE 100 in December 2013, shortly after its controversial flotation, and dropped out in September 2017. A second relegation, coming shortly after a substantial profit warning, may lie to rest any further debate over whether the 2013 privatisation was correctly priced or not. Although the shares initially soared from 330p and only peaked at 631p this spring but after the latest profit setback, under new boss Rico Back, they are struggling to hold onto the 330p level. 

A forecast annual dividend of 24.6p, enough for a yield of some 7.2%, may be offering some support to the shares, but Royal Mail’s lack of earnings growth is working against it. Two acquisitions on the West Coast of America have yet to fully prove themselves, letter volumes in the UK are in decline and although e-commerce is driving parcel volumes this is a fiercely competitive market. 

A lot of the firm’s prior earnings improvements also rested upon cost-cutting but that can only take you so far and also represents relative low-quality profit improvement – firms that grow profits by expanding their top line (and do so organically) offer better quality profits and tend to be more highly prized as a result.

Appendix: How promotion and relegation are assessed

•    All of the major FTSE indices are reviewed on a quarterly basis. They are set according to share prices from the close of business on the Tuesday before the first Friday of the review month (which in this case is December). The changes come into effect in mid-to-late December.

•    In general, a stock will be promoted into the FTSE100 at the quarterly review if it rises to 90th position, or above (by market capitalisation) and a stock will be demoted if it falls to 111th (by market value), providing it fulfils the other criteria, such as free float and a presence on the Main Market. 

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