Dangers and new horizons
‘Fundamental problems haven’t been addressed and that is a worry’. Investors would do well to heed these words of warning by Lord Rothschild, chairman of RIT Capital Partners, an investment trust that successfully navigated the sea of adversity that represents stock market investing over the past decade.
Prospects for 2010 and beyond must be viewed above all with Rothschild’s utterance in mind. Never mind the worry that at current elevated levels global stock markets are discounting a rate of economic growth that is unlikely to be met, as my colleague Barry Riley observes on page 12.
Bear in mind that very little has been done to fix the malfunctioning cogs and gears that led to a breakdown of the financial system in 2008 and the global economy in 2009. Also the bill for the emergency repairs has been delayed until the world is in a more solvent state to pay for it.
In this year’s Wealth Creation Guide, a sense of realism pervades many of the tips and forecasts from our experts, rather than wishful thinking. You should peruse its contents in the context of your own investment horizons and risk tolerance.
Below are 10 key themes I believe will govern whether 2010 is a damp squib or a slow-burn sizzler for savers and investors.
10 key themes for 2010
1‘Quantitative easing’ and other stimulative measures
Have they boosted economic growth and what happens when the taps are turned off and the policy reversed? The strong stock market gains of 2009 were boosted by ‘easy money’ – such as borrowing in dollars and buying ‘risk assets’ such as commodities and emerging market equities.
2 Interest rates set to stay low despite rising inflation
The UK’s Consumer Prices index is expected to rise at an annual rate of 3 per cent by early 2010, meaning savers will see little or no real return on their deposits. In the highly indebted UK, in particular, the government and the Bank of England will tolerate higher inflation on the grounds that raising interest rates will choke off any economic recovery.
3 Some fixed-interest bonds are attractive
Bond funds (particularly strategic bond funds and those which can invest in bonds issued in currencies other than sterling) are priced to offer a fair trade-off between the risk of companies going bust and the historically high yields that reward investors for taking that risk.
4 Some fixed-interest bonds are a minefield
Government bonds, particularly conventional UK gilts, are a dangerous place to be right now.
Should bond markets begin to question the UK government’s ability to service the spiralling public debt, or believe that inflationary pressures will not be contained, bond yields will rise significantly. This, however, would present an opportunity for new investors to lock in high yields. Historically low annuity rates would also rise.
Should the price of existing bond issues fall below par value there could be a tax-boost to holding gilts until redemption (because they do not attract capital gains tax).
5 Inflation can bring its own rewards
Many investment managers who value wealth preservation more than wealth creation are taking big positions in inflation-linked bonds – particularly US Treasury Inflation Protected Securities (Tips) – because they fear an inflationary shock.
However, the plus side (particularly for governments) is that inflation will shrink the real value of debt and help to justify the UK’s historically high house prices.
6 Golden days ahead
Predictions that gold will reach $2,000 (currently $1,120) in 2010 are not fanciful, although it might be a bumpy ride. The dollar – the fortunes of which affect the gold price – is likely to be volatile in 2010, but, for all the reasons above, gold will be seen as a store of value.
7 Dividends in short supply
Most UK-quoted banks – a mainstay
of dividend income in the past – are out with the washing, so the UK stock market is relying on 15 large companies to supply 66 per cent of the UK’s total dividend pool. Investors seeking sustainable and rising equity income need to consider spreading their net to Europe and Asia and, to a lesser extent, the US.
8 Research pays off
Under-researched smaller companies also pay dividends. Money Observer’s evolving Thrifty 30 portfolio is based on sound and proven principles of value investing. Readers who followed these principles last year banked a 78 per cent gain, but we shouldn’t be too greedy – we think 15 per cent a year is adequate recompense over time (see page 36).
9 Emerging markets have emerged
Some of the economic growth numbers
may be questionable or unsound, but if China says it will grow by 8 per cent then that is what will happen (particularly when it has spent about $600 billion on infrastructure projects to ensure that it does). Nevertheless, our economic destiny depends increasingly on economic fortunes in Asia and the southern hemisphere.
Goldman Sachs reckons that, since 2007, the Bric (Brazil, Russia, India and China)nations have increased their share of global economic growth to nearly 50 per cent – nearly double that of the 2000-06 period.
Capital markets are also developing rapidly – witness Banco Santander raising $8 billion from local investors in October for its Brazilian operation through a stock market offering in São Paulo.
These markets should be more prominent in allocations to overseas equities – and bonds, for that matter.
10 Diversity makes sense – most of the time
In 2008, just about everything fell in tandem, the opposite of 2009. In more ‘normal’ circumstances the graphic below shows how asset classes do well in some years and fail in others. You cannot hope to predict which of the various outcomes from the financial crisis will favour which particular asset class. That means it makes sense to have your investing fingers in several pies.
And finally … bankers:
squeeze them while we can
The shock to the collective banking system following the tax raid on bonuses prompted some to threaten that they will pack up and emigrate en masse to the Swiss cantons. But Alistair Darling might as well grab some money off them while he can as they are leaving anyway. They will go where the economic power is shifting – places such as Shanghai, Singapore and São Paulo are where the really big bonuses will be made – and it is shifting faster than many politicians, policymakers and investors expect.
