Some musings one year on
We have finally reached the first year anniversary of the Lehman’s debacle. Markets have recovered 60% from their March 2009 lows and bond and credit yields have begun to normalise. On almost every front, the economic indicators are signalling recovery. The headlines suggest the recession is over. What crisis, you might be forgiven for asking?
It’s worth remembering that this was the most catastrophic meltdown in some seventy years. Markets hit the bottom only six months ago. And at this time last year the first odes to the failure of capitalism were being drummed up in the orchestra pit and there was no lack of willing participants. It was difficult to conceive of a future path, unless your politics leaned to the left of Karl Marx. In the end though, and despite the doomsayers, it all seems to have turned out alright. But we are left with some problematic legacies.
Regulation, whether for better or for worse, is going to increase. The deleveraging of the financial system is not yet over and there is no clear sign that banks are lending freely again. Consumers will save more and are already doing so. It is clear that China will promote its own interests over those of the developed world.
Government will continue to play a larger role in the global economy for the conceivable future. Therein lies the big question of course; what is the exit strategy, how to get rid of all that debt (inconceivably huge and still rising) and withdraw the liquidity provided to markets? Is the answer inflation and is that what we have already seen in the asset markets? What’s going to happen to interest rates and where on earth do you find yield in this environment? Investors are already speculating over whether monetary authorities will raise interest rates sooner rather than later.
In my view, there is enough uncertainty around to remain prudent in your approach. All things considered, Ashburton remains quite bullish although we have taken some risk off the table recently. In our view the likelihood of rapid inflation in the goods and services sectors seems low – after all, global inflation has persistently surprised on the downside and if one takes into account all that spare capacity, well the answer seems quite evident. We think corporates might still surprise with third quarter earnings but valuations are now quite rich, especially in the East.
It is quite conceivable that the lack of yield is chasing risk assets higher. Therefore the more recent stages of the rally in equities, in commodities and corporate debt, may have been driven by investors
fearful of being left behind rather than pure fundamentals, thus adding to the risk of a pullback in the short-term. Of course, cash in this zero inflation environment remains a useful tactical tool; that is it protects capital even though it may not generate return. Strategically of course, you can’t be long cash for too long, if you’ll forgive the phrasing; this is becoming the next big investment challenge.
As much as anything else, it is worth looking at a longer term chart of global equity performance. We may have recovered half of the losses but we are still 50% off the highs of 2007. That’s a pretty good indication that there is some way to go before things are fully mended.
To wrap up and as one might have expected, there has been lots of debate and commentary in the press over whether Lehmans should have been allowed to fold or not. For obvious and generally rational reasons, most of us will think not. However, as somebody said recently, you have to consider what catalyst was needed to burst what (with the benefit of hindsight) was the mother of all bubbles. Without Lehman’s would it have ended in an orderly fashion? Somehow I don’t think so.
