Scott believes the current problems are more serious than last May’s correction which also saw the FTSE lose around ten per cent but then quickly recover.
Scott says: “I believe that some contagion to the real economy is now inevitable. The consumer pumped up on cheap credit has kept the economy ticking. But given the record levels of indebtedness, consumers will now wish to rebuild their savings, particularly if unemployment starts to rise.”
Scott says that because consumption accounts for around 70 per cent of UK GDP a reigning in of debt will inevitably impact on company earnings and profits.
He says that this is not yet factored into market expectations which he argues still discount a soft landing “Goldilocks scenario”.
He also says that although inflation has just fallen he does not believe the “dragon” of inflation has been thwarted.
Scott takes issue with managers who argue that the market is undervalued saying that “this is different to 2000, we have an earnings bubble not a profit to earnings bubble”.
Scott says that around forty per cent of UK market cap is in banks, oil and mining stocks which also represent 50 per cent of earnings. He says these sectors are however on historically low PE suggesting they are at earnings peaks.
He says: “Beware the valuation trap – the market’s modest PE is an illusion. Adjusting for cyclical downgrades, my view is that equities have further to fall before they become attractive again.”
Scott moved the F&C income and growth fund to a defensive stance some time ago featuring tobacco, telecoms and utilities as well as companies with defensive but growing earnings including some support services and technology companies.