Bear market a buying opportunity

2011-09-03 00:00

NOW is not the time to start selling, as investors will only lock in losses.

Recent events, specifically the political dissent in the United States and the consequent downgrade of U.S. debt intensified a market downturn that started earlier this year, with the U.S. and other markets plummeting.

While markets have clawed back some of these losses, we continue to experience shockwaves of volatility, and investors are jittery. However, systemic risks have been a reality for some time now and we implemented protection measures in our portfolios as early as April, accounting for the “risk triad” comprising the threats of a double-dip recession, Eurozone debt contagion and a hard landing for China, when implementing our views.

Ironically, the biggest risk to the global economy right now is that sustained market panic could itself trigger a recession. Weak markets would sour consumer and business confidence, with the knock-on effect of cutbacks in household and corporate spending. However, while economic risk is high, I don’t believe that we are in for another deep global slump characteristic of the one following the 2007/2008 sub-prime crisis. What is certainly true is that companies are now in better condition, having improved balance sheets, reduced inventories and cut surplus labour.

The current volatility is creating even more opportunity, with valuations on equity becoming increasingly attractive. Despite strong earnings growth, the decline in markets has meant that price-earnings ratios have fallen sharply. The forward price-earnings ratio on the world market is down to nearly 10 times, which is cheap. As a result, we have increased the expected real return for international ­equity from 6,5% per annum (pa) to 7% pa (in U.S. dollars). It remains our preferred asset class for the medium term.

For local equities, the recent fall in share prices and an expectation of good earnings growth over the next 12 months have resulted in the forward price-to-earnings multiple dropping to below 11 times (as at the middle of August). There are now in the region of 50 stocks that are attractively valued on a forward multiple of less than nine times, with solid dividend yields. We have increased the expected real return to 6,5% pa from 6% pa.

The strong performance of bonds has meant that their returns will be lower going forward, and the slowdown in the world economy has meant that cash yields are not going up. Local bonds offer limited potential for capital gains, but should deliver a real return of 2,5% pa over the next five years, which is attractive compared with the 1% pa we expect from cash.

Now is not the time to start selling, as investors who sell in market downturns only lock in losses in their portfolios. In fact, as mentioned, we are doing the opposite and are using the current weakness as an opportunity to buy shares. Note, however, that our optimism is not broadbased, and investors still need to be ­selective when stock picking, as our bullish ­equity stance is against a backdrop of what remains a low-growth world, where most other asset classes remain even less attractive than they have been.

Sensible risk management is still important, and we have not taken our portfolios to their maximum equity exposures, reflecting the high level of macro-economic risk in the current environment. Not panicking and sticking to your long-term savings plan will ensure wealth creation. — Moneyweb.


Peter Brooke is the Boutique Head at Macro Strategy Investments (MSI).

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