![\"screen-shot-2016-09-12-at-09-13-06\"](\"http:\/\/frugalstudent.co.uk\/wp-content\/uploads\/2016\/09\/Screen-Shot-2016-09-12-at-09.13.06-300x195.png\")
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As we can see from the above graph, the FTSE’s price to earnings ratio has spiked massively from bumping around under 15 to over 35.<\/p>\n
Simply put, the FTSE has been driven by demand as opposed to underlying earnings growth from its constituents.<\/p>\n
A quick glance at some FTSE constituents valuations will further illustrate the eye watering prices being paid by investors for stocks in pursuit of yield and in hope of earnings growth.<\/p>\n
Brexit will smash high p\/e stocks.<\/strong><\/span><\/p>\n Investors have shaken of Brexit nerves but this is only relative to pre-brexit market levels that were already overvalued. (As shown on the FTSE 100 5 year illustration above)<\/p>\n When investors buy high p\/e stocks they are buying future growth prospects. These prospects and material. Simply best guesses. When these don’t deliver, these stocks will tank.<\/p>\n Why?<\/strong><\/p>\n Consumer confidence has dipped since the Brexit vote but action by the BoE has helped steady nerves.<\/p>\n Further to this, Brexit hasn’t even happened yet and the full effects of the vote are yet to be realised.<\/p>\n I believe that investors are relying on a false self sense of security simply hoping that the UK will get a good deal and that BoE action will avoid a recession. BUT, once article 55 is triggered and the negotiations properly begin consumer confidence will once again decline.<\/p>\n When consumers lack confidence they don’t tend to spend money on non-essentials. Instead, they consolidate.<\/p>\n With less money being spent by consumers, inflated p\/e ratios suddenly become harder to justify as uncertainty weighs on forecasted earnings.<\/p>\n Just look at what happened to ABF’s share price on the news that Brexit related events would weigh on profits;<\/p>\n <\/p>\n So what do these two things have to do with each other?<\/strong><\/span><\/p>\n The first section of this article outlined that the FTSE 100 was grossly overvalued on a historical basis even before Brexit.<\/p>\n The second section of the article outlined declining consumer confidence that will lead to lower consumer spending. With lower spending and more economic uncertainty due to Brexit, high p\/e stocks will find it hard to meet their forward valuations.<\/p>\n Applying this logic one could conclude that the FTSE100 will find it hard to justify its high valuation and correct to a more historical average of a p\/e ratio of around 15.<\/p>\n![\"screen-shot-2016-09-12-at-09-25-06\"](\"http:\/\/frugalstudent.co.uk\/wp-content\/uploads\/2016\/09\/Screen-Shot-2016-09-12-at-09.25.06-300x154.png\")
With a clear decline since Brexit, BoE action has led a recovery in consumer confidence since then, but confidence remains in negative territory.<\/p>\n![\"screen-shot-2016-09-12-at-09-30-46\"](\"http:\/\/frugalstudent.co.uk\/wp-content\/uploads\/2016\/09\/Screen-Shot-2016-09-12-at-09.30.46-300x222.png\")
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