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Return to sender - Royal Mail drops out of the FTSE 100

Emma-Lou Montgomery

Emma-Lou Montgomery - Fidelity Personal Investing

Royal Mail is set to drop out of the FTSE 100 index of leading shares on Christmas Eve, while the AA and Thomas Cook are facing relegation from the broader FTSE 250 index.

The ignominy of dropping out of the FTSE 100 will be keenly felt by shareholders in Royal Mail, which only just made it into the index earlier this year. However, what a difference eight months can make; Royal Mail’s shares touched an all-time high of 631p in May.

And what a difference a shock profit warning can make; turning a value stock into one most investors and brokers think is best avoided.

It has been a torrid time for new chief executive Rico Back. Just months into his tenure, that shock warning, that profits would be significantly lower than the year before, sneaked out an hour before the market closed, did nothing to protect the shares. They went into freefall and within the hour had dropped 85.7p to 391.4p.

Mr Back, who only took the helm in June, said trading conditions in the UK were "challenging", with the number of letters posted - particularly marketing mail - affected by "ongoing structural decline, business uncertainty and GDPR".

That was then; but just seven weeks after that warning, things were even worse, with the share price down a third and back below where they had floated in October 2013; when if you remember, there had been talk of them having been priced too low.

Losing a place in the FTSE 100 is never seen as a good thing and for companies already struggling, relegation adds insult to injury. But it’s also significant as it can put stocks out of reach of funds that only track the index of the UK’s top companies. Membership of this elite group is more than a status symbol.

But while Mr Back, who has been snapping up shares, may be an obvious cheerleader for the company that employs him, odds are he won’t be alone. The shares have fallen by close to 50% this year, leaving them on a price-to-earnings ratio of just 7.7 times. However, the dividend yield is more than 7%, as the full-year dividend pay out to shareholders is expected to be broadly unchanged at 24p a share.

A study by Smith’s Corporate Advisory also showed that companies that drop out of the FTSE 100 don’t fare as badly in share price terms as you might expect either. It found that the shares in these companies rose 2% in the period between when relegation is evident and when the change actually happens. Royal Mail is on track to follow that pattern; having risen 4% in early morning trading today. Broker RBC Capital Markets believes they will go back up to 500p.

Anyone who has been following the markets for the past few days will not be surprised to hear that Thomas Cook is also set to be relegated from the broader FTSE 250 index, along with the AA.

Thomas Cook’s shares have plummeted by around 70% since September. The travel operator’s fate was effectively sealed after it issued its second profit warning in as many months and the past few days have seen the shares more than halve on talks of an emergency cash call being imminent.

However, true to form, according to the Smith’s study, today the shares have soared to the top of the FTSE 250 gainers. No doubt propelled as well by the fact that chairman Frank Meysman has just spent almost £80,000 buying up 373,000 shares at 21.57p a pop.

And if you’re wondering about the short-term prospects for Hiscox, the insurer which is set to take Royal Mail’s place in the blue chip index, according to the Smith’s study, companies promoted to the FTSE 100 tend to rise on average by over 15% in the two months leading up to reshuffle day, and add another 2% in the short period between the announcement and the change taking effect. However, they tend to fall by 5% on average in the two months afterwards.

Important information

The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.