Charles Robertson: Everything is in place for market bull to start its run

Published on Saturday 18 July 2009 14:18

THE fall in property values and share prices over the past year has made the decision over where to invest a difficult one.

The sharp rally in many global equity indices since March complicates matters further as investors are unable to reconcile the grim economic news with the market's behaviour and worry that it is a bear-market rally.

A further dilemma is faced by the many prudent savers, particularly those in retirement, who have seen income generated by their cash deposits decline significantly since interest rates fell to historic lows.

True, the last decade has brought a series of events that have seriously challenged investors' belief in quoted companies as a source of long-term capital and income growth. Investment managers and stockbrokers have struggled as conventional wisdom and analysis failed. In particular, the benefit of both asset and geographical portfolio diversification has not fully materialised as the downturn caused most markets and asset classes to move in tandem.

The strength and rapidity of the rally seen in the market since March have taken many investors by surprise. However, despite the rally, equity valuations are still low by historic standards and institutional cash balances remain high.

In order for the rally to be sustained, the market needs to be assured that the financial system has stabilised and that there is no longer the possibility of the widespread failure or nationalisation of the banking system. Deflation will need to be avoided or perceived to be a short-term event, house prices and unemployment numbers need to stabilise in order for consumer confidence to return and unprecedented measures are being implemented to address these issues.

Given the extent of the problems faced by the global economy, we consider that the next two to three years will be difficult, but it is very much a case of when, not if, the global economy will stabilise and then resume growth.

Against this backdrop it is difficult to see anything other than interest rates remaining low.

Overall, the ingredients are all in place for the next "bull market" to begin and we believe there are a number of attractive investment opportunities for those who require income and are prepared to place their capital at risk. We are not convinced by the arguments that we are witnessing a bear-market rally and will revisit the market lows witnessed in March and last October. After such a strong run, it is unsurprising to witness a consolidation phase and any weakness should prove to be short-lived.

Dividends are currently under pressure as witnessed by BT and Legal & General cutting their payments. Shell-shocked investors in Lloyds Banking Group and Royal Bank of Scotland may have to wait a long time before any dividend payments are received. However, shares such as Tesco, British American Tobacco, Vodafone, Royal Dutch Shell and GlaxoSmithKline all offer relatively secure dividend yields comfortably in excess of a risk-free deposit account. Threadneedle UK Equity Alpha Income Fund, UBS Equity Income Fund, Murray International Trust and Law Debenture Corporation are all managed funds we have supported. The excess income earned by investors appears to adequately compensate those who place their capital at risk.

Interestingly, many of the shares mentioned have not fully participated in the rally, which has focused on more "cyclical" stocks, particularly in the financial sector. Therefore, investors should not worry that they have "missed the market" because the investment opportunity has remained largely unchanged.

Investors for much of the year have also been reviewing the merits of corporate bonds, given the combination of apparent value and income offered.

We have supported the M&G Optimal Income Fund and Old Mutual Global Strategic Bond Fund and strongly recommend, given the specialist nature of the fixed interest market, investors choose a managed fund to obtain exposure rather than select individual corporate bonds themselves.

In three years (typically the minimum time span considered appropriate for equity investment is five years) both the stock market and the wider global economy should be in recovery mode – which on the balance of probabilities holds out the prospect of a positive capital return, in addition to the immediate income uplift, for the patient investor, whose cash returns are currently being ravaged by minimal rates of interest.

Charles Robertson is senior investment manager at Murray Asset Management