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Investment view

So much for a peace dividend. The news that Saddam Hussein was prepared to allow the weapons inspectors in created an initial feeling of euphoria. Briefly. So brief it might easily have passed you by without you even noticing. By Wednesday, the market was back in freefall. Life is not easy in the investment world at present.

There was one contra-cyclical indicator – personal to me – that gave some cause for hope. One of the most level-headed and consistently optimistic investors I know has turned bearish. This is what we need. When the last bull finally draws in his horns and heads for the hills, that may be time to buy. But it sure as hell did not feel like it, looking at the trading screens last week

This long bear market – now the longest since the Second World War and heading on to be the most protracted in living memory – is accelerating a consolidation of the investment industry that was probably long overdue.

Financial institutions are putting their investment subsidiaries up for sale in the knowledge that these days you need critical mass. Economies of scale are necessary if you are to survive in a world where margins are under severe pressure and where you can no longer rely on a steady flow of new investor money. Let me repeat the mantra – it is tough in the investment world at present.

There is some value out there, though. Dividend yields offering a positive return over inflation, after tax, are not uncommon and it is certainly possible to improve on the returns achievable from Government bonds through purchasing selected equities.

True, keeping an eye on a company&#39s ability to maintain its dividend payment is important but carefully researching high-yielding shares is an exercise that looks as though it could pay dividends – if you will pardon the pun.

Among those sectors where yields look attractive are the banks. Their half-year reporting season is now well behind us so we will have to wait until next February before we get any more substantive news but generally they have performed well.

Bad debt damage has not been as great as feared and generally profits have held up well against a background of slowing economic conditions.

Yet the banks are beginning to underperform the market, something that our own analysts think could continue. With a sector average yield of 4 per cent and some companies offering more than 7 per cent, why should this be?

Part of the problem is that banks have been through a period of significant market outperformance. This was particularly accentuated by the bursting of the technology bubble and, although they have handed back some ground recently, the fact remains that the current rating relative to the wider market remains well above the long run average.

Moreover, many UK banks are heavily involved in the insurance sector. It is the difficult position that many of these companies now find themselves in that has been roundly blamed for much of last week&#39s discomfiture in equities.

Solvency margins remain under pressure and, without some relief, this could eventually impinge upon credit ratings. It is perhaps, not so difficult to understand why our analysts are as cautious as they are.

Of course, the bulls of this sector will point to the continuing quest to cut costs. No one can deny that banks have been very successful in achieving this in the past. They have become leaner and meaner and now represent among the most efficient in Europe. So where are the future savings to come from? Not, it would seem, from further staff cuts if service levels are to be maintained. It all seems a shame, given the attractive dividend yields.

One should not write the entire sector off, of course, but simply be careful in which of the players to select. Banks are, after all, the biggest constituent sector of the FTSE100 Index. And perhaps this is where we may have a problem with the market going forward. If the biggest single component of Britain&#39s benchmark indicator is likely to be a drag on performance, what will set the market on an upward path?

The investment world is a testing place at present and may remain so for a little while. The trouble is that we shall only know then the turn took place after the event.

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