Stronger pound, weak retailers drag down UK FTSE

Thu Jan 9, 2014 11:22am EST

* FTSE 100 down 0.5 pct

* Lags peripheral shares as pound strengthens vs euro

* M&S boosted by food sales growth, bucks falls for peers

* William Hill hit by threat of government regulation

By Francesco Canepa

LONDON, Jan 9 (Reuters) - Britain's FTSE 100 fell on Thursday and underperformed shares in sourthern Europe, as a rise in the pound against the euro hampered prospects for the index's exporters and most retailers fell after weak Christmas updates.

The FTSE erased gains in the afternoon as the pound rose to its highest in a year against the euro on the back of a European Central Bank pledge to keep rates very low.

Investors bet the Bank of England and the ECB would pursue diverging monetary policies, meaning British blue chip companies, which derive around a quarter of their sales from Europe, may find it more difficult to export to the euro zone.

"I can certainly see sterling continuing to strengthen in the coming months," said Craig Erlam, an analyst at Alpari.

"Whether it's going to push the FTSE further down or just limit its potential to rally, it's probably going to be the latter, but it's definitely going to be detrimental."

The FTSE 100 was down 30.73 points, or 0.5 percent, at 6,691.05 points at 1605 GMT, breaking below the 6,700 mark in the afternoon as U.S. stocks fell.

The index has risen just 4 percent in the past six months, three times slower than the STOXX Europe 600. That compared with a nearly 30 percent rally in Spain's IBEX as investors sought exposure to a nascent recovery in the euro zone periphery at lower valuations.

Shares in the MSCI UK index trade at twice their book value, a 60 percent premium to Spain and more than twice Italy's multiple, Datastream data showed.

"As long as we start to see earnings start improving in the periphery I expect that trend to continue this year," said Nicolas Simar, head of the equity value Boutique at ING Investment Management.

Shares in Marks & Spencer rose 3.5 percent after the upmarket retailer reported organic growth in food sales in the Christmas quarter, offsetting weakness in its clothes business, which reported a 10th consecutive quarter of falling sales.

The stock, which is still down some 12 percent from a five-year high hit in September, outperformed steep share price falls at larger food retailers WM Morrison and Tesco , which reported like-for-like quarterly sales drops on Thursday.

"The trend in the food market is being very much towards the top-end and value-end outperforming the big four, and certainly the results over Christmas have confirmed that trend is continuing," Investec analyst Kate Calvert said.

"With Marks & Spencer, there is a lot of bad news already in the share price and given that there are fundamental changes going on in the business model, which we will start to see over the next couple of years, I don't think that's factored into the valuation," added Calvert, who upgraded M&S to "buy" from "hold" on Thursday.

Rivalling the retail fallers was William Hill, down 7.4 percent. It was downgraded to equal weight from overweight by Barclays after Britain's parliament debated fixed-odds betting terminals and did not rule out restricting them.

"Regulatory change has always been the key driver of sentiment toward the gambling sector. Yesterday the Labour Party called for greater regulation of the gambling industry in the UK," analysts at Barclays said in a note.

"We stress that there has been no change to regulation but we expect that this negative news-flow will weigh on the sector ... In the absence of clarity, we downgrade William Hill."