Robust year for equities leaves FTSE all-share 9.2% up

A fall in share prices on London's final half-day of trading for the year tarnished an otherwise robust performance for investors over 2004 yesterday.

The FTSE 100 index closed down five points to end 2004 at 4,814, 7.5 per cent up on the year, thanks to a 12 per cent surge in the final three months of 2004. While this may look robust it is just half the 13.6 per cent posted by the market in 2003 - and more amusingly a fraction of the 40 per cent growth posted by world cheese prices.

The growth was driven by small cap stocks, which rose 11 per cent on average, to push the FTSE All Share, the broadest index, up 9.2 per cent. Paul Niven, the head of strategy at F&C Asset Management, said the market was unable to match 2003's gain, when the swift end to the Iraq War in April triggered a rebound in optimism.

He said: "In 2003 the story was one of re-rating, as people priced in earnings growth coming through into 2004. This meant last year saw more modest price progress."

Across the world markets posted a 9.6 per cent rise measured in local currencies - or 12.9 per cent in US dollar terms - according to Morgan Stanley's MSCI index. Britain was one of the weaker performers in the industrialised world.

While the US markets rose 8.9 per cent in dollar terms, the Dow Jones posted a 4.4 per cent loss in sterling terms. The star performer was Egypt, up 107 per cent, followed by Colombia on 100 per cent and Budapest with a 68 per cent surge. All the EU accession countries rose strongly.

At the other end of the spectrum, China slumped 22 per cent in sterling terms, Thailand was down 18 per cent and Hong Kong dropped 13 per cent.

Many stock markets traded within a very thin range for most of the year, before finally breaking out in the final three months. Strategists expect this relatively low level of volatility to continue. Mr Niven said: "It is difficult to argue for a significant re-rating of equity markets, so we are expecting corporate earnings to drive the market rather than any fundamental change."

Among UK investment funds, the strongest performance was logged by Aberdeen Asset Management property fund, which rose 43.2 per cent over the year, according to the research firm Lipper.

The bond market performed surprisingly well in 2004, despite a climate of rising interest rates that normally undermines demand for fixed income investments. Overall return on government bonds was 9.45 per cent in dollar terms, according to the MSCI. This included a 3 per cent return on US bonds, as two-year Treasury note wrapped up its worst year since 1999.

While the five rate rises by the Federal Reserve sapped demand for US bonds, the low level of European rates helped to produce double-digit returns on Austrian, Belgian, German, Spanish and French bonds. Gilts posted a 7.6 per cent return.

On the currency markets, the dollar posted its third successive decline for the first time since its slump in the mid-1980s. Yesterday the pound held steady above 14-month lows against the euro, but ended the year 8 per cent stronger against the dollar.

Oil prices were the real surprise of last year, posting an annual rise of 34 per cent on both sides of the Atlantic. At one point prices were up 50 per cent as oil hit $55 a barrel on US markets. Gold ended with an annual gain of more than 5 per cent

For next year, analysts say stock markets face the same risks as the macroeconomy: the twin deficits in the US, high oil prices and the future path of the dollar. Mr Niven said investors would be wise to see where the risks to the consensus forecast lie, adding: "The main risks are that oil prices stay high, bond markets perform better than people expect and that we get a sharp rise in the dollar."

For the UK, Barclays Stockbrokers said it expected 2005 would provide modest returns from markets, as last year had done. It said bond yields looked likely to start the year between 4 per cent and 5 per cent, and equities should give a higher return than bonds, of between 7 and 9 per cent.

It said the tightening of monetary policy was the major risk to 2005: "As we end 2004, central banks in the UK, Australia, the US and China have already raised interest rates, and even the Japanese are getting closer to the point where zero per cent is no longer appropriate."