And here’s another one – those who don’t learn from the mistakes of history are condemned to repeat them. This one applies in particular to investors, both amateur and professional, because we are still surprised by markets that give us every indication of being completely and illogically overvalued.
The mistake, on this occasion, was an assumption that by investing only at the quality end of the technology sector, one would be safe from the ravages of a market sell-off. Unfortunately, when the sell-off came, as everyone knew it would, there was nowhere to hide – the good suffered with the bad.
The encouraging thing is that on this occasion, investors did not complain that they were not warned about the risks, and better still they did not sell out in panic. Quite the opposite; greed overcame fear as investors sought to invest at bargain prices. The only question now is will the market bounce back or are we in for a long wait until the bull run resumes?
For now, short term-ism is rife as investors get to grips with a good old-fashioned mid-summer malaise. The problem now, if we can call it that, is a lack of conviction among investment professionals, many of whom have reservations about the markets, based on a scenario of strong global growth, rising inflation and extended stock prices. It would be a brave individual who could define the likely short-term direction of markets, based on current evidence. Further interest rate rises in the US (on top of the 50bp added on May 16) are anticipated, as the Federal Reserve is forced to act to preserve price stability. The price pressures building now relate to growth generated up to 12 months ago, when most commentators were obsessed with the potential meltdown associated with Y2K considerations. The higher money supply that fuelled the market boom has been withdrawn and this has been largely responsible for the global contraction in equity markets.
Those who criticise the Fed would do well to remember that 12 months ago the recovery across Asia and even in Europe was nascent and needed higher rates in the US like a hole in the head. The need to raise rates assures a slowdown in 12 month’s time and this is the current focus for the market.
An economic slowdown in the second half of 2000 is now becoming the consensus expectation and managers are undoubtedly preparing for this in portfolios by raising the weighting to defensive large cap growth stocks such as pharmaceuticals at the expense of those technology stocks that don’t have a strong technology franchise, ie, anything that finishes with
Natural resources have proved to be a good shelter from the storm. For global equity portfolios, we have introduced a 10% weighting in the energy sector and our selected vehicle is the Mercury Energy International Fund. The fund offers exposure to both upstream and downstream companies in the sector. The portfolio features integrated oil companies, service companies and other counters. The energy sector has been buoyant since we included the Fund. The oil price looks stable, OPEC is behaving itself and US oil and gas reserves are at a level where prices should be supportable.
The potential for further downside volatility still exists. Higher inflation and consequently tighter monetary policy could generate a recession rather than a slowdown which markets are clearly not anticipating. Inflation and even interest rates do not kill bull markets, recessions do. However, from a tactical perspective, investor sentiment has moved from bullish to bearish.
A move into cash during a dull market would be a risky strategy. Although
the direction remains unclear, the reality is that we have witnessed a near 40% retracement in the NASDAQ and a stealth bear market in many sectors outside technology in the last 2 years. This should provide opportunities to those investors willing to adopt a medium term perspective to their investment, and that means looking a little further afield than the end of the summer.
Richard Newell is a director of Forsyth Partners at