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Investment view

The fact that 2004 was not a runaway year could be good news for investors.

What would you like in your Christmas stocking next week? A common wish for those involved in the investment business is a copy of the Financial Times a year hence.
The theory is that the information imparted would be sufficient to deliver a profitable year’s investing. But it might contain information we would rather not receive and, anyway, it would take all the fun out of managing money.

Who, for example, might have predicted a year ago that the investment fund leading the field at the end of the year would be invested in Europe? True, the Jupiter European opportunities fund is hardly mainstream but Europe was not looking the brightest place to invest a year ago. The dollar was already weakening and Continental economic activity was stalling. The picture looks little different today. In truth, it has been enlargement of the European Union that has delivered the biggest fillip to markets. The opportunities created in the newly democratised nations of Eastern Europe are legion.

As it happens, European indices have proved pretty pedestrian over the past year. Modest rises have been achieved overall but that is little different from the experience of headline indices in the US and this country. In the US, of course, you would have handed back all the market gain through currency loss as a sterling investor. That is just as true of the Nasdaq index which, despite an enthusiastic start to the year, faded – along with the hopes for a robust global economic performance next year.

The good news has been at home although even now we cannot be entirely certain that we will end 2005 in positive territory. With just a handful of trading days to go, the margin of profit in the headline FTSE 100 index is too slim to start banking the cheques. Not so the mid- and small-cap stocks, with the 250 index delivering a rise pretty much three times that of the more often quoted benchmark just a few days ago. Small and mid-cap stocks have been outperforming bigger companies for a little while now. There are plenty of managers who believe this situation must be corrected at some stage. While all the evidence points to smaller-cap stocks generally being a more fruitful hunting ground for managers, albeit one carrying a greater degree of risk, the reality is that there are periods when they are overlooked or where market conditions simply do not favour them.
While conditions could be right next year for a reversal of fortunes, the weakness of the dollar seems certain to hold back many of the constituent companies of the FTSE 100, simply through the translation effect on profits.

Good news comes from the fact that 2004 was not a runaway year. After the bounce delivered in 2003, there could have been every reason to expect markets to continue to run. Economic growth was strong for much of the year and corporate profitability rebuilt swiftly. By and large, companies are awash with cash, much of which is being returned to shareholders in the form of dividends or through merger and acquisition activity. Indeed, the growth of private equity and continued rationalisation throughout a number of industries looks like restricting the supply of shares across the market.

This is not a new phenomenon. It happened in the late 1990s and look what happened to share values then. It is not just companies leaving the stockmarket because they are disillusioned with the rating accorded them. Private equity is also heading off companies, such as Saga, that might otherwise have sought a flotation. In 2004, private equity was very much a growth story.

Much of the demand for private equity funds can be attributed to the same mentality that has driven hedge funds. As it happened, this part of the investment world did not have a particularly sparkling 2004. It was inevitable, I suppose, that just when everyone wants to leap aboard the bandwagon, momentum runs out. Yet there is every chance that hedge funds will come of age and find a cornerstone in many investors’ portfolios.

We approach the end of the year with confidence continuing to build but nervousness still apparent. There have been surprisingly few alarums and excursions over the past year. Yet the fact that Isas have been deserted shows that the anticipated premium return of equities is not considered sufficient to tempt investors back.

Let us hope the year to come encourages and supports the cornerstone of the free market – the equity investor.


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