Consolidation of the Shell Group will affect many charity portfolios.
Anyone who can remember the massive buying of Vodafone shares in 2000, following its acquisitions of Airtouch and then Mannesman, is likely to view with some trepidation the proposed consolidation of the Shell Group into one UK listing. Yet, in approximately three months' time, Royal Dutch Shell and Shell Transport and Trading are likely to merge. Shell's weighting in the FT All Share Index will rise from 3.2 per cent to 8.2 per cent and it will drop out of the Euro STOXX 50. This will affect many charity portfolios.
A move of 5 per cent in a share's weighting in the market is too large for fund managers to ignore. Index funds will be forced buyers and active funds will be reluctant to be 5 per cent underweight in so large a constituent of the market. Many funds, especially hedge funds, are likely to accentuate this demand by buying in advance of the change. Although Shell's recent results in both November and February were slightly disappointing, the shares have been performing well and are outperforming BP. Clearly, some investors have started taking action.
So the move to a single holding is creating demand for Shell's shares for technical as well as fundamental reasons. This calls into question the value of indices and of following them too closely.
The FT All Share Index is becoming a particularly odd index. Twelve stocks will account for more than half the UK market by market capitalisation.
Four sectors (oils, banks, pharmaceuticals and telecommunications) will account for half the market. This means factors specific to particular sectors could have a sizeable impact on the whole market. In particular, 25 per cent of our market is based on oils and mining, making it potentially very responsive to volatility in commodity markets.
When Vodafone rose to be 12 per cent of the FT All Share index, billions of pounds came out of other stocks, such as housing shares, and went into the telecommunications sector. The net effect was that fund managers, intent on trying to reduce their risk against the benchmark, ended up with higher-risk portfolios. This time there will again be a knock-on effect. BP's weighting will fall from 8.2 per cent to 7.8 per cent, HSBC's from 6.5 per cent to 6.2 per cent and Vodafone's from 6.2 per cent to 5.9 per cent.
So as well as Shell's weighting rising, other stocks could find their prices under pressure even if they are performing well at the fundamental level.
One of the arguments in favour of index funds is that they help allocate capital efficiently. When the weightings of large companies change rapidly, one has to call into question the merits of passive investing and of following indices too closely.
- John Hildebrand is head of charities at Investec Asset Management.
- Royal Dutch and Shell Transport and Trading are likely to merge
- Shell's weighting in the FT All Share Index will rise from 3.2 to 8.2 per cent
- This move will create demand for Shell's shares
- It also calls into question the merits of following indices too closely.