In the aftermath of the terrorist attacks on New York and Washington DC, the future direction of the US economy is shrouded in uncertainty. Though economic forecasting is tricky at the best of times, the unprecedented events of mid-September have left financial experts waiting for political, military and popular reactions to crystalise.
Most market analysts at least agree that the attacks have made a recession in the industrialised world much more likely. “All earlier judgement on the US economy, where the signs have been that the economy had stopped deteriorating, is now defunct,” say strategists at Credit Agricole. “The downside risks have intensified but the magnitude is unclear.”
SG Asset Management agreed that the recent atrocities in the US meant the slowdown would be longer and deeper than it would otherwise have been. “The slowdown we were experiencing before this is likely to be exacerbated and lengthened by what has happened, but it is not falling off a cliff,” said Sam Mercer-Nairne, US fund manager at SGAM.
He now expects an economic recovery to happen about six months later than was envisaged in previous forecasts. “We now expect the US_economy to recover towards the middle of next year… and while we had expected the economy to avoid a recession, we now think it likely there will be one.”
In terms of GDP, the economy would probably now bottom in the fourth quarter of this year, says Mercer-Nairne.
Credit Agricole strategists say a US and global recovery hinged on the outlook for the US consumer, and this had already been a key focus even before the attack. “The shock to the American psyche could spell a drop in consumer confidence that could have widespread ramifications.”
“It would be a miracle if consumer confidence does not decline in coming months under such a heavy burden. The extent of the downward pressure on consumer spending would depend crucially on the behaviour of the equity markets, oil prices and the aftermath of the crisis,” the strategy team says.
Tom McManus, strategist at Bank of America in New York, says his team had been cautious even before the terrorist attack. “In our model portfolio, bonds will remain overweighted until we see improvements in the valuations of stocks,” he says. Too many investors are overlooking normal valuations. They are measuring valuations from the top of the market – taking the view that because prices have fallen from their highs they are now cheap.
But this is not necessarily so in this perspective. “We’ve gone from an extraordinarily optimistic phase to one where pessimism is starting to creep in,” says McManus.
It bodes ill for the market, he says, that many young people in the US are concerned about the fall in stock prices. This implies they are already substantially invested in equities, rather than a scenario in a more economically healthy situation where the young had yet to invest.
“Whenever the popular media run public interest shows with 12-year-olds picking stocks, that’s a very bad sign,” he says. “If the fad of stock investing becomes so widely embraced, who is left to buy? Only those not yet born, I suppose.”
He believes the market has a lot further to fall before the rout is over. “It’s not for certain, but to assume this downturn is just another buying dip is wrong.”
Market players are concerned about the eventual outcome to the tragedies in the US. It is unclear as yet how the US government will retaliate – what shape and scale military action will take, and how the enemy and the international community will react.
One of the difficulties facing market forecasters now was that there has been no precedent to the mid-September events, strategists said. “There’s nothing that we can draw a decent parallel with,” says Chris Johns, global strategist at ABN Amro in London.
McManus says there is unlikely to be the kind of quick resolution that the Allies were able to achieve in the Gulf war in 1991. The new enemy is one who is on the move, and therefore more difficult to confront, he said.
Although it is hard to see a clear picture of how the US markets would now move in absolute terms, the relative picture is easier to predict, says Johns. Certain sectors driven directly by consumer spending, such as airlines, will obviously suffer. Defensive sectors, on the other hand, should remain more solid.
Bond prices have already risen substantially, and portfolios are likely to remain overweight in cash and bonds for the foreseeable future, he says. “If you’ve got cash, I wouldn’t be rushing to put it into equities.”