Market Commentary - 31/10/2008

There are some positives to come out of the past few weeks despite some very violent stock market conditions.  Chiefly, the fact that the spread between BoE (Bank of England) base rate and LIBOR (London Inter-bank Offered Rate) has narrowed, is encouraging.  This means that government injections of liquidity into the financial markets and their guarantees to shore up the banking system are beginning to work.  But the sight of continued stock market deterioration shows that we are starting to move out of the ‘credit-crunch’ phase and into a good old-fashioned global economic slowdown.  Unfortunately, that means a recession for us in the G7 economies.  It is the realisation that emerging markets like China will also slow sharply that is behind the recent extra leg to the crisis and the bringing down of the stock market even further.

Accepting that the world we have been living in was extraordinary could be seen as a necessary step towards recovery (I was somewhat surprised therefore to hear the Chancellor of the Exchequer suggest that he would like banks to return to 2007 levels of lending soon).  The shattering of the notion that China and Asia would be substantially immune from the effects of a downturn in the US and Europe, means that valuations can revert to more sustainable levels.  I happen to believe that the fundamental balance of economic power has shifted towards the East (those with a longer historical perspective may say that the balance has simply ‘reverted’ to the longer term norm); however, to claim that they can ‘decouple’ from the rest of the world is somewhat preposterous.    Nonetheless, China will continue to grow and that is a positive for the global economy as a whole.

Not all assets are seeing a decline in their demand, some are positively booming.  Printers in Germany are apparently reporting record sales of Karl Marx’s Manifesto of the Communist Party and Capital.  As someone whose education necessitated the study of Marx, I doubt if all those who enthusiastically turn to him now will get very far – it’s a rather dry read.  It does reflect, however, a sense that we are witnessing the death of a particular type of capitalism – if not the death of capitalism itself.  So what will the world of the future be like?

Well imagine walking down a British high street in 5 years time.  Looking around, ask yourself, will there still be banks on the high street?  Will you recognise the names of those banks and the other shops in the street?  Hopefully, unless you’re a complete pessimist, the answer to those questions will be yes.  If that’s the case then the capitalist system will still exist and you’ll still be playing a part in it.  What we probably will see over the next few years is an increased role by governments in the economy.  It is also possible that governments, elected or otherwise, will be more protectionist in nature and less open to free-trade if they feel it will damage their domestic economies during a time of fragility, and this will restrict global growth.

Investment in companies with strong balance sheets that have commanding market share is likely to be the order of the day over the next few years.  The positive news is that many good quality companies have been over sold during the past 12 months and now represent excellent value.  Identifying these stocks is the domain of fund managers who focus on stock fundamentals.  With companies likely to cut dividends in the short run, the immediate outlook is still uncertain; however, for longer term investors, investment now is worth considering as many good stocks are arguably looking very cheap right now.