Travelling Through The Recession

Feb. 20, 2009 - PRLog -- President Obama launched both his megabuck plans. One aims to reflate the economy by extra public spending and some tax cuts. The other builds on the Bush TARP proposals to buy distressed assets from banks to try to lift the gloom in the financial sector.  The US Stock market was not impressed.

The markets fell further because they are worried about the sharp acceleration in the downturn around the world, and concerned about the lack of detail in the banking package. The decline in the heavily indebted nations like the US and UK is  now being matched by sharp declines in activity in the successful exporting nations like Germany and Japan, as they struggle to keep alive their export-led economies in  conditions of poor demand worldwide.  Indeed, on the figures so far the downturn in the US is less severe than in many other countries.

In both the US and the UK the monetary authorities are talking about quantitative easing, more commonly known as printing money. The variant they both favour is the direct purchase of bonds held by the private sector, to inject more cash directly into the hands of those who previously held the bonds.  Both now think inflation is over. In the case of the UK the targeted measure is still at 3%, well above the 2% target, and there is evidence of further price increases to come through on imported goods following the decline of the pound.  The RPI in the UK is now almost zero, but this is flattered by the temporary VAT cut and especially by the big fall in mortgage interest rates.  In both the US and the UK wage inflation is subsiding.

Yields on corporate bonds remain well above the equivalent maturity government bonds in the main markets. We have bought some for clients, and are hoping for some reward in the form of revaluation. In the meantime there is a good yield compared to the income on offer elsewhere. We feel clients do need to take some risk this year as the return on cash is so low, and at some point the market will feel it has discounted financial pressures on the corporate sector sufficiently.

We have bought some equity positions in the US and Asia, which so far are caught in the general world problems. We will be adding more to these on bad days as we travel through what should be the worst quarters of the recession. In due course the extra money being pumped into western economies will make a difference.  Meanwhile the Eastern economies are taking some reflationary action of their own.  In the case of China she can afford to, and needs to rely more on domestic demand and less on overseas demand for her future growth.  We remain predominantly in cash and bonds for discretionary clients.

The world is not going to recover without some turnaround in the USA. When things do get better we expect the Asian economies to continue their outperformance. We remain nervous of the UK, owing to the large public deficit. The Office of National Statistics published a preliminary finding that the bank share purchases would add £1 trillion to £1.5 trillion to national debt, or 70-100% of National Income.  This is on top of a fast increase in the conventional debt to finance public spending. The Monetary Policy Committee of the Bank of England is seeking permission to undertake quantitative easing, whilst making nervous comments about the impact of lower sterling on prices.  We think when it is time to buy equities and property more generally, it will be better to do it elsewhere given the special risks in the UK

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We belive that carefully considered asset allocation decisons is the cruicial part in the investment management process and argue that identifying the correct asset classes in which to invest is more important than selecting the underlying stocks.