Only a few bubbles left to burst
QUESTION: What is your view on the current state of the investment world, and what will restore confidence again?
ANSWER: Given the high levels of volatility in the financial markets, difficult credit market conditions and concerns about inflation and economic growth, investors are justifiably nervous at the moment. With all this uncertainty, capital preservation will be at the top of many investors' lists of criteria, particularly for those who have witnessed significant losses in their stock market holdings this year.
We’ve probably all heard about the high costs of borrowing that have affected households and financial institutions around the globe.
But what’s needed to restore confidence in the stock markets?
One of the biggest concerns affecting companies, financial institutions and households is the high cost of borrowing.
With expensive rates and tightening credit standards, borrowing has become a difficult, not to mention expensive, exercise.
Borrowing rates are so high because banks themselves are looking for capital to strengthen their balance sheets due to many of them revealing large losses related to the US sub-prime mortgage market.
To ease this situation, we need to see trust restored between banks, which should begin to improve when the stream of bad news flow dries up and the housing market stabilises.
The huge injections of cash by governments and their respective clearing banks will also help significantly.
In addition, UK interest rates also need to fall to help ease the funding pressures in the economy and the weak growth outlook, and we have witnessed the first of those in recent weeks.
High levels of inflation are also hampering profit margins and consumer confidence, driven in no small part by the sharp rise in the price of oil over the past year.
Again we are seeing that price bubble burst, with oil at almost half its recent peak. In the UK, consumer price index inflation is running at 4.4%, well above the Bank of England's 2% target.
However, inflation usually reduces in low growth environments because of declining demand.
Furthermore, countries such as India are reducing their oil subsidies, which should also reduce demand, therefore if commodity prices continue to fall, we could expect monetary easing and a sustainable British stock market recovery in 2009.
In the short term tight credit conditions, high commodity costs, a cyclical downturn in consumption, falling house prices, rising inflation and bad news flow all continue to challenge portfolios, while high levels of volatility only serves to shred investors' nerves further.
Volatility in financial markets is off-putting for many investors, unless they are patient and prepared to invest for the long term.
But while they say we will only see a recovery once every bubble has been burst, I personally feel there can’t be too many out there still to pop.
We may now be through the worst but that does not mean to say that we will suddenly return to another quick boom and recovery in the markets.
Hopefully if the last year or so has taught us all anything, it is that slow sustainable growth is what we should all be pursuing.
In the meantime, a well diversified asset-allocated portfolio remains core to any investment philosophy.
Creating a portfolio which is diversified across traditional asset classes such as shares, bonds, cash, and property with the inclusion of new and different ideas such as alternative Assets and Alternative Trading Strategies can provide greater protection and the potential for better returns.
Raymond Mulligan is managing director of Johnston Campbell, a company of independent financial advisers regulated by the Financial Services Authority. For further information, please contact email@example.com or call (028) 9022-1010.