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Will the dip turn into a downturn?

Investors are so far staying calm in the face of market falls following the terrorist attacks on the US, apparently under-standing that equity investments are a long-term game.

But as the media continue to pile on the bad news about a possible recession, clients will want to know whether government intervention will be sufficient to ensure that the downturn will be a temporary dip rather than the start of an enduring slump.

Before the attacks, the UK looked to be in relatively good shape, with low inflation and low unemployment. This was boosted by last week&#39s news from the Office for National Statistics that growth in the second quarter was 0.4 per cent and not 0.3 per cent as assumed by City analysts.

However, two surveys published last week painted different pictures of the state of consumer confidence in the UK.

The Consumer Confidence Barometer, a survey by the GFK Group for the European Commission, suggested UK consumer confidence had been dented but not seriously deflected from its long-term trend by the terrorist attacks. But a Mori poll in the national press showed consumer confidence at its lowest level since 1980.

Crucial to bringing UK investors back into the market will be the state of the US economy. Evidence of a US recession had been reported widely in the press even before the attacks of September 11. Schroders believes the knock-on effect of the terrorist attacks will be to push the US into the two quarters of negative growth which validate the application of term “recession”.

Its chief economist Keith Wade is predicting a V-shaped recession lasting for two quarters, with a recovery in the first quarter of 2002, on the basis of avoiding an all-out war in the Middle East.

Wade says: “The terrorist attacks on America will push the US economy into recession, with Japan and Asia to be more adversely affected than the UK and eurozone. But there has been a strong policy response and I believe it has been right. We believe rates could be cut even further than 2.5 per cent.”

The direct effects of the attacks have clearly hit the productivity of New York&#39s financial services community, which is responsible for 2.5 per cent of US GDP. Wade believes the sector should return to operational effectiveness relatively quickly although airlines and tourism will probably take longer to recover.

The Federal Reserve&#39s rate cuts, together with those in the UK and across Europe, have already pumped a huge amount of money into the economy and it seems likely that more cuts will come if necessary. Wade predicts a 0.5 per cent cut in the US to 2.5 per cent early in October.

President George W Bush has already earmarked $40bn for reconstruction and help for the families of the victims of the attacks and a further $8bn for the beleaguered airline industry.

With Americans getting more money in their pockets from Bush&#39s huge tax cuts, it is hoped that the extra cash in the economy will help consumers worried by the uncertainty caused by the attacks.

Businesses will be boosted by lower oil prices, which analysts believe could fall even more.

Wade believes the biggest risk is a panic rise in savings as households&#39 net worth is hit by falling share values. He says: “In the US, people have been buying cars on the back of surges in equity values. If the stockmarket continues to fall, there will be upward pressure on savings, forcing consumption down.”

Uncertainty surrounding the market is being exacerbated by a unique global crisis but some IFAs believe now is a time when there are grounds for cautious optimism.

Bates Investment Services senior investment adviser Paul Ilott says: “It is extremely difficult to second-guess the market at this time, especially as there is still uncertainty as to the reaction of the US. But for investors able to focus on the long term, this is a good time to get back into equities if they can override the short-term volatility.”

Isa sales had already hit an all-time low before the attacks and Autif says anecdotal evidence indicates sales have fallen further. Some IFAs are likely to be reticent about advising clients to buy in the dip.

Chase de Vere savings and investment manager Ian Millward says: “Trying to call markets is virtually impossible over a short period. Investors coming in now should be content the market is down by 40 per cent but it is notoriously difficult to predict the level of the market in six months time. Whether to go in now depends on the sort of investor you are.”

IFAs will need to be clearer than ever on whether their clients are seeking peace of mind as the crisis is played out or are happy to buy at a time when shares are considerably cheaper than a year ago.

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