Nervousness grows. Reduce risk, take profits
Brian Dennehy
Last month we said:
“Warning signs are growing. We recommend taking some profits and rebalancing into areas where there is still clear value e.g. high yielding shares, corporate bonds, and Asia and emerging markets”.
Subsequently most markets around the globe hit highs in mid October, and uncertainty is palpably growing. And so it should after 50% rises in many areas, and bearing in mind we are still midst an extraordinary global experiment to get the world economy back on an even keel.
While the UK GDP numbers a week or so ago were startlingly bad, most people realise they are unreliable estimates, subject to huge adjustment, and largely at odds with what appears to be going on in the wider economy. Particularly encouraging was that UK businesses are repaying debt and rebuilding cash balances, which is a decent lead indicator of business investment and hiring. In addition an EU survey of confidence also showed a strong improvement in the UK and continental Europe.
The US is less encouraging, where similar confidence surveys are rolling over and down. The headlined “end to recession” in the US is also not what it seems. Once you strip out cash-for-clunkers (accounting for half the GDP improvement in the third quarter), the first time buyer tax credit, and a bit of inventory rebuilding, there isn’t a lot of growth left. Remember each of these elements is a one-off, and the impact of the massive stimulus in kick-starting the wider economy is not clear.
At the other extreme the greater risk in Asia is overheating, and each time another country puts its interest rates up the US and UK markets twitch nervously. Our rates will have to go up one day, it isn’t likely to be soon, but whenever it is unlikely to be without pain. For example, at that point gilts yields will likely spike higher on inflation fears, and equities will sell off; but will the authorities be able to insulate the wider economy as wobbly financial markets adjust to something like normality, which must involve higher interest rates?
Meantime in the US stock market, a four day losing streak (pre the miraculous “end of recession” GDP number) would not normally be of note. But unlike similar occurrences since March, this one had the foundation of selling in volume. There is now a tug-of-war between buyers and sellers. At best this will lead to choppy trading, possibly for months. Or it could lead to a sharper correction. No one knows which, but some cayion is merited after meteoric rises since March.
Such dark clouds do tend to conceal the more encouraging long view. Uncertainty now is part of the price we pay for adjusting to, and building a foundation for, a future which is much more stable, and isn't built on extraordinary levels of debt creating the mirage of wealth.
In the short term we continue to recommend taking profits and reducing risk.
Date: 06.11.2009