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Jagged edge

2008 was an annus horribilis for equity investors as the credit crunch intensified and western economies slipped inexorably into recession.

The returns from the major markets were terrible.The UK’s FTSE All Share fell by 32.8 per cent, the S&P Composite dropped 38.5 per cent and Japan’s Topix index plummeted by 41.8 per cent.

What’s more, those hoping for a rapid recovery in 2009 will have been disappointed. By February 10 this year, the FTSE All Share index has dropped another 4.2 per cent, the S&P Composite 8.4 per cent and the Topix 9.4 per cent.

The length and depth of the recession remains unclear but investors’ reluctance to consider increasing equity exposure is understandable, particularly if they sustained heavy losses. However, the picture is not clear cut and, judging by the returns available from other asset classes, most investors are currently not being paid to avoid equities. With the major central banks pursuing a zero interest rate policy, and government bond yields approaching zero, getting even a nominal return is a struggle these days.

What does the future hold and where does the best return potential lie?

Financial markets are a highly effective discounting mechanism and a savage recession has already been factored into share prices.

By January 2010, we believe there is a strong probability that the green shoots of US economic recovery will be starting to emerge. On this basis, most of the bad news, and therefore the market falls, are probably behind us. However, this does not mean that it is back to the races. We do not anticipate a smooth equity market recovery. As 2009 progresses, we expect equity markets to experience a series of jagged trading rallies as sentiment towards the global economy shifts gear and the argument changes from the possibility of a depression towards attempting to predict what type of economic recovery is likely and how sustainable it will prove to be.

Investors need to take a long-term view. Sitting on the sidelines would have saved money in 2008 but could prove a highly risky strategy in 2009, particularly if an economic recovery appears likely and this scenario is rapidly factored into share prices.

Successfully timing the market is exceptionally difficult. Research published by Fidelity in 2008 suggests that an investor in the FTSE All Share index over the prior 15 years who missed out on the market’s 10 best- performing days would have ended up with a portfolio worth 37 per cent less than it would have been had they remained fully invested.

The last six months have been hard for investors, particularly those in equities. However, unless you are exceptionally skilled and confident that you can time your entry and exit points accurately, the best advice is to remain invested at this time.

History has shown that markets start to recover six-12 months before economic recovery begins and once an economic recovery is on the horizon, equity markets could rapidly hit the recovery trail.

Ian Pascal is marketing director at Baring Asset Management

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