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Fighting off the British Malaise
After several weeks' sojourn in South Asia I came back refreshed and reassured that actually the global economy is in quite rude health. It is only when one lands back in the UK that the pall of determined pessimism starts to flow back across you. I had forgotten our astonishing ability to not only assume the worst outcome as the most likely but also our trenchant views towards normally rejecting any form of positive prognostication. Now admittedly our American cousins can often be accused of the complete inverse, generally seeming to be more bullish in their attitude to the future over just about everything. As we all know, realism is somewhere in the middle, but at least the Americans seem to have a more sunny if sometimes unrealistic disposition in contrast to our own Lutheran air of undefined guilt and an inevitability that the worst may occur....
So before the British cloud of depression envelopes me perhaps we can point out some of the more salient positive features. Corporate results, for example, have generally been looking rather positive with many companies on both sides of the Atlantic having managed their way through the recession very effectively with lower debt, higher cash positions and profit figures fulfilling expectations. The British side of us will immediately point out that this has been due to tough cost cutting and low levels of reinvestment and capital expenditure which, although probably true, still means that companies are not teetering on the edge but are in fact managing themselves quite well, albeit through difficult times.
One sign of confidence has been the growing interest in mergers and acquisitions of which BHP and Potash has been the most recent high profile action. This wave has been predicated on two key issues - confidence and finance. The availability of corporate debt seems not to be a problem for quality firms with investors rushing to grab good quality paper even at record low yields. The confidence comes from companies who have moved from just survival mode, back into more of a growth viewpoint.
Corporate advisers are probably salivating at the potential deals to be done (and of course the fees to be earned) and all such speculation will of course be positive for equity markets as money chases the phantoms of the next possible target deal. The reality of much of this though is that although it may be good for the markets, these deals often actually achieve little for the economy or even, as we know from the figures, do much for the companies themselves as so few seem to create greater shareholder wealth in the medium term.
Another positive bit of news to receive as we came off the plane was that UK tax receipts were up and thus UK government borrowing levels were lower than expected. Add to this the somewhat startling rise in consumer spending and Mr Cameron will come back from the West Country quite heartened that the recovery is still there and has not faded away in the summer holidays. "Aye though" says my Scottish conscience "but these are just one month's figures" - true, but just shut up. The truth is that everything will be on hold until we have the results of the Comprehensive Spending Review in October, but if this is a trend of 'not as bad as we thought' then the cuts may not need to be quite as Draconian as currently predicted.
Of course the other side of this has been the continuing strength in the inflationary numbers which although slightly lower, are still over 3% on CPI. This is the other secret weapon of any government - devaluing the real debt through inflation whilst capping as far as possible any increase on expenditure.
We can read whatever we like into the forest fires in Russia and the appalling floods in the Indus valley, but it seems that the increasingly erratic and lethal behaviour of the weather is almost becoming the standard. The immediate effect on markets was seen in the wheat price which spiked and created a surge of interest and speculation as investment vultures sought to benefit from the price movement on the back of the disasters. Sadly much of this gives investing in commodities a bad name but that is an unfair tag on those who see such investments as a strategic part of the broader investment asset allocation requirements.
I think that a broad basket of commodities has a very useful role to play in a well diversified portfolio. We believe that they reduce volatility, particularly at times of high inflation. There are however some well known investors who dispute whether commodities are investments at all as they are "economically inert and do not develop value... Those who buy and sell commodities are not investing; they are speculating that they know more or better than the markets know." (Charles D Ellis - Winning the Loser's Game). Certainly there have been speculators, but market supply and demand will win out over time. Those attempting to corner the markets normally find themselves cornered - Bunker Hunts in Silver come to mind.
You may remember from your economics classes that high prices tend to lead to increased supply as producers increase production to increase their profits. We have had high prices in agricultural products for some time now and acreage and supply does seem to be increasing in most areas of the world. Farmers' incomes are increasing and they are investing in more plant, machinery and fertiliser to meet strong demand.
This could lead to lower prices in the future if supply outstrips demand. At present wheat prices are high again because of the current situation. These events will impact this year's harvest, but there is nothing to say that this situation will recur next year. There could be a good crop in Australia as well as the USA which could offset this and there could well be a good crop and falling prices next year. Also current supplies and inventories in the US seem to be significantly higher than before.
And finally...courtesy of my good friend John Whiting some English language problems identified at an international airport recently. Some confusion arose as a result of enquiries from a group of backpackers. Whilst standing in the queue one of the tourists came up and enquired with the single word "Chicken?" This was then repeated by the others almost as a form of mantra addressed to any who were in earshot to respond. The constant request for chicken would have seemingly been a delight to the local KFC franchise holder but unfortunately they would have been disappointed - it turned out that these backpackers were those global tourists from New Zealand and the request for a chicken was in fact merely the request for 'Check-in'.
Have a good week.
Justin A. Urquhart Stewart
Director
Seven Investment Management Limited
Article last updated: Aug 26, 2010
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