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Thursday 26 March 2009
Insight: The signals for recovery
The current economic environment will eventually improve. Pent up demand will one day seek out cheap assets, hopefully assisted by easily available credit; while run down inventories will need to be re-stocked.
The current economic environment will eventually improve. Pent up demand will one day seek out cheap assets, hopefully assisted by easily available credit; while run down inventories will need to be re-stocked.
It is important to appreciate this in order to achieve long term financial goals: to take the view that there will never be another economic cycle within a long term investment horizon may seriously damage your expected wealth, if the result is to consign oneself to defensive assets on a multi decade basis.
Here we list some economic signals that might inform us when to invest again in risk assets. We focus on the US.
America remains the world’s largest economy and it does seem probable that it will be the first of the major western economies out of recession. This forecast is based on the sheer scale of the fiscal stimulus package and the determination of the Fed to ease the credit markets through various forms of intervention. Just look at the numbers: last week the Fed announced it would buy $300bn of Treasuries and a further $850bn of agency debt and mortgage backed securities. Earlier this week US Treasury secretary Tim Geithner announced a Public-Private Investment Program aimed at buying up to $1,000bn of toxic assets held by banks.
The most important signs of economic recovery will probably come from the housing market, since a stable housing market will support consumer confidence. Falling home sales and housing prices have undermined the value of mortgage-backed securities throughout this crisis. Recent improvements in housing starts, albeit from a very low base, are therefore a positive sign
Vehicle sales are another key indicator. The auto and auto parts sectors are big employers and the health of the car industry has a huge psychological impact on American public sentiment. It is also worth monitoring chain-store sales figures, which can improve before vehicle sales as consumers purchase more basic consumer goods before they have the courage to buy bigger ticket items.
Weekly unemployment claims should also be watched, with growth in the economy unlikely to happen until we see a significant deceleration in the new unemployment claims. A steady reduction in this number to somewhere in the 500,000s or 400,000s (from the 600,000 currently seen) could convince many that the pace of job losses is slowing.
Overall, these indicators are generally negative. But let’s remind ourselves of some positive long term reasons for investing in the US that go beyond “first in, first out” argument that is suggested by the aggressiveness of both Capitol Hill and Fed policies.
The US domestic market is highly competitive and this supports productivity growth. America attracts talent from around the world into its universities, helping to propel innovation and spawning new businesses. When functioning, its capital markets are wide and deep, providing funding for new ideas. More generally, there exists a strong appetite for work in order to buy goods and to get ahead, which is combined with a low level of welfare benefits for the unemployed. On the demographics side, it has a lower median age than Japan or the EU and with that a less troublesome pension problem over the coming decades.
But until the signals mentioned above start to turn positive, what should an investor do? Certain principles seem to make sense. Make sure you have high-quality bonds or market neutral assets in a portfolio, in case the economy and the markets get even worse. Be flexible, so you can move into riskier assets, such as high-yield bonds and stocks, if the economy shows signs of turning more positive. Protect yourself against inflation, as price pressures could build if fiscal and monetary stimulus efforts are sustained at too intense a level for too long. This suggests a role for real assets.
This is probably the most challenging environment that many in the financial community and private investors have ever faced, and the sense of doom can at times be overwhelming. But there will be a recovery, when risk assets once again outperform defensive assets on a consistent year on year basis. Watch those signals!
1 comment:
Insight: The signals for recovery
By Tom Elliott
25 March 2009
The current economic environment will eventually improve. Pent up demand will one day seek out cheap assets, hopefully assisted by easily available credit; while run down inventories will need to be re-stocked.
It is important to appreciate this in order to achieve long term financial goals: to take the view that there will never be another economic cycle within a long term investment horizon may seriously damage your expected wealth, if the result is to consign oneself to defensive assets on a multi decade basis.
Here we list some economic signals that might inform us when to invest again in risk assets. We focus on the US.
America remains the world’s largest economy and it does seem probable that it will be the first of the major western economies out of recession. This forecast is based on the sheer scale of the fiscal stimulus package and the determination of the Fed to ease the credit markets through various forms of intervention. Just look at the numbers: last week the Fed announced it would buy $300bn of Treasuries and a further $850bn of agency debt and mortgage backed securities. Earlier this week US Treasury secretary Tim Geithner announced a Public-Private Investment Program aimed at buying up to $1,000bn of toxic assets held by banks.
The most important signs of economic recovery will probably come from the housing market, since a stable housing market will support consumer confidence. Falling home sales and housing prices have undermined the value of mortgage-backed securities throughout this crisis. Recent improvements in housing starts, albeit from a very low base, are therefore a positive sign
Vehicle sales are another key indicator. The auto and auto parts sectors are big employers and the health of the car industry has a huge psychological impact on American public sentiment. It is also worth monitoring chain-store sales figures, which can improve before vehicle sales as consumers purchase more basic consumer goods before they have the courage to buy bigger ticket items.
Weekly unemployment claims should also be watched, with growth in the economy unlikely to happen until we see a significant deceleration in the new unemployment claims. A steady reduction in this number to somewhere in the 500,000s or 400,000s (from the 600,000 currently seen) could convince many that the pace of job losses is slowing.
Overall, these indicators are generally negative. But let’s remind ourselves of some positive long term reasons for investing in the US that go beyond “first in, first out” argument that is suggested by the aggressiveness of both Capitol Hill and Fed policies.
The US domestic market is highly competitive and this supports productivity growth. America attracts talent from around the world into its universities, helping to propel innovation and spawning new businesses. When functioning, its capital markets are wide and deep, providing funding for new ideas. More generally, there exists a strong appetite for work in order to buy goods and to get ahead, which is combined with a low level of welfare benefits for the unemployed. On the demographics side, it has a lower median age than Japan or the EU and with that a less troublesome pension problem over the coming decades.
But until the signals mentioned above start to turn positive, what should an investor do? Certain principles seem to make sense. Make sure you have high-quality bonds or market neutral assets in a portfolio, in case the economy and the markets get even worse. Be flexible, so you can move into riskier assets, such as high-yield bonds and stocks, if the economy shows signs of turning more positive. Protect yourself against inflation, as price pressures could build if fiscal and monetary stimulus efforts are sustained at too intense a level for too long. This suggests a role for real assets.
This is probably the most challenging environment that many in the financial community and private investors have ever faced, and the sense of doom can at times be overwhelming. But there will be a recovery, when risk assets once again outperform defensive assets on a consistent year on year basis. Watch those signals!
The writer is strategist, JPMorgan Asset Mgt.
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