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Outlook and investment advice for 2009

Outlook and investment advice for 2009

14.1.2009 16:07

Situation for 2009 might look like the two following scenarios:

Scenario no 1:

- Monetary and fiscal stimuli in the US will start taking effect already in the first half of 2009. The growth in government debt, however, should not cause an excessive demand for money on capital markets. Both the debt and Fed’s balance sheet are likely to begin returning to normal upon first signs of recovery.
- Unemployment will have a negative influence on the overall sentiment and household demand in the first half of 2009. This should change rapidly as the above mentioned stimuli will start bringing fruit. Companies will be quick to react to this by reconsidering their investment spending and the investment growth will not be dampened by access to funds – i.e. especially corporate bonds risk spreads will return to better levels for the economy.
- Car makers in the US will turn the corner and start restructuring. Some of the less important financial institutions (esp. hedge funds) will cease to exist. On the other hand, no major problems are predicted in case of large banks (all skeletons should be out of closet by now; it is still to be seen how much the banks are worth).
- The US dollar will remain at levels favourable for export. It will not, however, weaken as much as to cause inflationary pressures and/or undermine further external funding of the American government deficit and foreign demand for securities.
- Crude oil and other commodities will grow in reaction to the rebound; however, the price growth will be gradual and will not dampen the rebound.
- The rest of the world will soon follow suit; China will escape relatively unscathed with only a small-scale slowdown and the same goes for other BRIC countries. This will cause a resurrection of investor confidence and its return into other developing regions.
- Stocks react to the first signs of recovery in advance and by the end of 2009 will have thus erased the 2008 losses.

Scenario no 2:

- Monetary and fiscal stimuli in the USA will not work as their advocates hope they will: the lower yields of risk-free assets will be cancelled out by high risk spreads, fiscal stimuli will be restricted, infrastructure projects will be slow to take up, etc. The rise in government debt will bring about an excessive demand for money on the capital markets and will worsen the private sector’s access to credit. Concerns that the debt increase is untenable and worries about future inflationary pressures (i.e. that the stimuli will produce the effects too late) will contribute to the feeling of insecurity and to risk aversion.
- Household sentiment and demand will be adversely affected by unemployment and companies will keep curbing their investments. High corporate bond spreads will continue to impair investment and operation funding.
- US car makers will bolt down the money they received from the public purse and will go bust. Both the real and the psychological impacts will be considerable. The less important financial institutions will disappear and major banks will face further problems. As a result, the interbank offered rates will not go down.
- The dollar will plummet, but export demand will keep sinking nonetheless. Investors‘ shrinking confidence in this currency will make access to foreign funding difficult. China et al will be unwilling to finance the American debt.
- Problems elsewhere will look daunting and we have to brace ourselves for more debt, banking and monetary crises at local level. A significant slow-down in China will result in social tensions, geopolitical instability in other regions will grow.
- Aversion to risk will expand. Both the capital and the commodity markets will either go down or stagnate. The gold market will experience a bubble which is bound to burst soon.
- Shares will lose another 10% to 20% or so and things will not get better until 2H 2010.

Yet not all the conditions under the first or the second scenario must be fulfilled for the year 2009 to be a good one, or a bad one for shares. As I see it at the moment, the second scenario seems a bit more likely (I keep my investment in shares relatively low). But there is no point in attempting the impossible – to plan the future with precision. The point is to make arrangements for mitigating the pain if things go awry (scenario 2) and for enjoying the pleasure if they turn out well (scenario 1). A lot will depend on one‘s specific circumstances (the simplistic advice, such as „steer clear of the shares“, is mistaken).

- If I have saved enough money for my old days and still enjoy the game, there is every reason to try and profit from low share prices now. Shares as such will go up again. In the long-term, the only risk lies in the "structural crushes" – some shares will never go up again (companies going bankrupt or too weak to catch up again). When choosing which shares to include in your portfolio, it is important to have a look at the balance sheet (a strong balance sheet should secure survival even under the second scenario), alongside the usual fundamental indicators. The usual type of superficial advice, such as that based on sector rotation, should not be followed.
- If shares are to become an important source of my wealth in future, the prospect of potential profits under scenario 1 is irrelevant in comparison with potential losses under scenario 2. It seems best to wait for normality to return to the markets.

I wish you a very prosperous 2009.

Jiří Soustružník

NB: The author is not a member of our staff and his opinions do not necessarily express Patria’s views.

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