WHEN ONE of the largest companies on the Irish stock exchange loses nearly half its value (€3 billion) in one trading session, it takes a heavy toll on the rest of the market. That was the case when the share price of pharmaceutical firm Elan fell by 46 per cent on Friday after it reported complications with its multiple sclerosis drug Tysabri. Because Elan is such a large component of the ISEQ index - which measures the value of listed companies on the Dublin exchange - the ISEQ touched its lowest point for five years.
It was the culmination of a calamitous week for domestic investors which saw Ryanair report an 85 per cent fall in profits for the first quarter and chief executive Michael O'Leary warn of a possible €60 million loss for the full year. Investor reaction to the disappointing news proved swift, negative and brutal with Ryanair losing nearly 23 per cent of its market value in one day.
The Dublin exchange was the second-worst performing stock market in the world last year and 2008 has offered no respite. Markets are sometimes seen as a discounting mechanism. They anticipate the future and companies are priced on the expectations set for their performance and profitability. In that process, economic slowdowns are discounted while economic recoveries are anticipated and a company's share price reflects the prevailing market expectation. But where the unexpected happens - as with Ryanair's surprise loss and with Elan's setback on a key drug - and when market expectations are dashed without warning, the share price adjustment can be extreme.
A particular difficulty for the Irish stock market, which helps explain why it has underperformed its international counterparts, lies in its make-up and its very small size. The ISEQ index is dominated by companies in the two areas most adversely affected by the credit crisis and the global economic downturn and most exposed to the bubble in the domestic property market.These are the financial and construction sectors.
Just as the Irish economy has been too reliant on property related activity for growth, the Irish stock market mirrors this imbalance in its own composition. Foreign investors remain wary of a market that is small in size, narrowly based and where so many of its major companies operate in vulnerable sectors. Irish institutions and investors, who have been over-reliant on Irish shares for their portfolios, have already paid a price for their failure to diversify. Quite understandably they too are now reluctant buyers.