Download MLC MARKET INSIGHT 09/2010 Summary The post GFC

MLC MARKET INSIGHT
09/2010 Summary
The post GFC investment environment – What can history
tell us?
If you ignore history then you’re doomed to make the same mistakes.
The recent bout of financial market nervousness serves as a timely reminder to
investors of the unusual nature of the challenges facing investors in the current
cycle. Renewed declines in equity markets of between 10 and 15% from their
April 2010 peak to late August 2010 reflect a broader escalation of concern
about the next stage of the global economy.
Whilst the GFC has in many ways been compared to the Great Depression, at
least thus far, it is yet to resemble the same magnitude. To put it into context,
US GDP growth fell peak to trough by just under 5% through the GFC whilst the
Great Depression experienced a peak to trough decline in excess of 25%.
Nonetheless the impact on the US and global economies of the GFC has been
particularly severe as has the still unfolding impact on investor returns.
Peak to trough decline in US GDP – GFC vs Great Depression
Up until the Global Financial Crisis (GFC) of 2008/09, as investors we haven’t
really thought too much about these previous periods of history. The belief in a
more sophisticated global economy and financial system, and greater confidence
in the management of them has led to widespread complacency and an ignorance
of many of the lessons from these extraordinary periods.
Lessons from history
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MLC MARKET INSIGHT
09/2010 Summary
What lessons can be drawn from the recurrence of banking crises through
history that may assist our understanding of the post GFC environment? The
most fundamental are that the
impact and duration of the crisis on an economy and the financial sector is
largely a function of three factors;
1. How severe the asset bubble was;
2. How significantly affected is the banking sector by the asset bust; and
3. How aggressive and ultimately successful the remedial actions by
Governments are to stabilise and rebuild the banking sector post crisis.
Using this rule of thumb, the GFC ranks high on the severity scale. However, is
there anything that gives us more comfort that the work out of the global
banking system, economy and financial markets post-GFC will be less severe and
more rapid than history suggests? In the case of the Great Depression,
inappropriate monetary and fiscal action (or inaction) by governments and
authorities globally in the early 1930’s turned a recession into a decade long
deflationary Depression.
Now, the policy response to the GFC means the situation is unclear. The initial
emergency measures to prevent widespread bank system collapse have helped to
stabilise conditions thus far. However, the failure to remove bad loans from
bank balance sheets particularly in the US, could see banks struggle to recover.
This is a major concern suggesting the potential for a “muddle through” work
out at least for the next 2 -3 years rather than the quick recovery hoped for.
Under the ‘muddle through’ scenario, risk assets such as equities may struggle
to appreciate above the 2007 highs for an extended period of time. Nonetheless,
this scenario suggests that quality risky assets can still provide reasonable
returns but they should be used with a more conservative view of outcomes.
Strategies that seek to achieve a reasonable level of return with a perhaps more
moderate or efficient exposure to risky assets could be employed. Some
suggested investment strategies for the “muddle through” scenario are:
1.
2.
3.
4.
Diversification
Dollar cost averaging
Active investment management (security selection)
Risk aware strategies that focus on the absolute return potential offered
by high quality investments
5. Secure and stable income returns from high quality assets including
equities
The current uncertainty in the global economy is going to be around for a while,
with lots of bad news interspersed with nuggets of good news. This will likely
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MLC MARKET INSIGHT
09/2010 Summary
result in greater ongoing financial volatility coupled with more modest
investment returns. Having the right investment strategy is crucial to
successfully navigating this period.
If you would like to discuss the paper further, please call any of our investment
specialists listed below.
Andrew Connors (02) 9376 5377
Natalie Comino (02) 9936 4538
Marius Wentzel (02) 9376 4549
John Owen
(02) 9936 4590
Kajanga Kalatunga (02) 9936 4537
Or email us at [email protected]
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as trustee of The Universal Super Scheme (ABN 44 928 361 101), members of the
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