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Investment View

I will do my best to see if I can complete a whole column without

mentioning Iraq and the possible consequences of a Middle East war on

the market. It will not be easy – the media seems full of speculation

on when the tanks will start to roll – but fortunately the banking

sector has come to my rescue. We are now deep in their reporting

season. As the single, largest component of the UK equity market,

what the banks report is significant for the performance of the

market as a whole. And thus far their figures have been well received.

So far, of course, we have only seen Barclays and Lloyds TSB and it

is difficult to know whether their experience will be translated

across the full range of banking players. Lloyds certainly pleased

the market by maintaining its final dividend which, given that it

raised the interim payout, delivers an effective increase for the

full year.

Their results are, of course, Peter Ellwood&#39s swansong, and it seems

highly unlikely that he would have wished to announce a cut. Still,

the overall picture was more encouraging than expected, given their

exposure to the insurance market. Indeed, it appears that, even if

the FTSE 100 Index fell to 3,000, Lloyds would only have to pump

another £300m into Scottish Widows – a relatively modest amount

these days.

Earlier last week Barclays demonstrated that it had a good business

mix and, given global economic uncertainty, major corporate collapses

and credit quality concerns, the modest decline in its profits

appeared an achievement. It also announced a real increase in

dividend payout for the year just ended. With many of the banks

offering yields significantly higher than that achievable in the

gilt-edged market it is a wonder this sector is not more popular.

But the reality is that this is a sector where it is difficult to

take a single, overall view in this country – let alone on a global

scale. There remain some significant imponderables that will act as a

restraining influence. In particular, concerns over the high level of

consumer debt continue to echo around investment corridors.

In the past, debt has been eroded by inflation but with the rise in

the cost of living relatively modest, the real burden of these debts

will stay high. It is estimated that one in five families is already

struggling under the debt burden – a worrying statistic were

unemployment to rise or interest rates go higher.

Indeed, the dependency of the UK economy upon debt-financed consumer

spending may well have been one of the factors behind the rather

downbeat report last week from the Bank of England. It expects

inflation, which is currently a little above target, to slip back

during the course of 2004. There could, though, be a modest further

rise in the interim and these factors, along with the continuing

uncertain global picture, will have reinforced their decision to

downgrade their expectation for growth.

But to return to the banking sector, or more correctly high-yielding

shares, there were some interesting questions delivered to the panel

I chaired at last week&#39s IFA UK roadshow in Brighton.

Seldom have I sat through a session so stockmarketorientated in terms

of the interest displayed by the audience. One question in particular

exercised the minds of a panel with a wide range of experience in

equity markets. In the current environment, would we favour equity

income funds or corporate bond funds for the investor seeking

long-term income? The debate this question encouraged was

considerable.

Two points were made which anyone advising people with money to

invest would do well to remember. First, we have been through a long

and significant bull market in British Government Securities. Yields

have fallen from 15 per cent to not much more than 4 per cent. How

much further can they drop? Of course, in Japan they dropped to

virtually nothing. Second, corporate bonds are now a much more

volatile market, heavily researched and the focus of a number of

funds. They cannot increase their payouts up in the way companies

can. It was this that, in the end, swung the balance in favour of

equity income, but no-one is denying that the bond component of a

portfolio may have to be bigger in future.

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