LONDON: The question on the minds of every economist and investor these days is: How rapidly this global economy will recover from the dramatic shocks evolved over the past several months and, what is needed to avoid falling into future pitfalls should the economic downturn worsens. They are simply concerned and indeed looking for meaningful assessment of the financial situation to start investing again.
I would perhaps start by warning against false expectations concerning simple remedies that might enable the formation of investment strategies for the coming months and probably years. The sheer complexity of the situation makes it virtually impossible to offer a suitable advice since risk has now become a tangible reality.
Let investment strategies be based on facts. Most investors I speak with are all too familiar with the current crisis impacting their investment and wealth and I don’t hear much about opportunities in global markets. Why? In practice, it is extraordinarily difficult to forecast the economic environment, and thus the return on investments. Global investors are already growing skeptical that banks, corporations and governments will be unable to make good on the interest they promise to pay.
It then becomes a question of confidence or, indeed, the lack of it. On the not-too-distant horizon, I see continued and unabated efforts by governments to stop the economy and stock market from massive collapse. The Group of Twenty (G-20) met in London on Saturday to tackle the international financial and economic crisis, restore worldwide financial stability, lead the international economic recovery and secure a sustainable future for all countries.
Equity markets across the globe were highly volatile as the credit crisis spilled over into the real economy. The tremendous uncertainty led to a flight to quality and investors moved funds out of equities. They were concerned about the prospects for equity markets recovery in the face of a global economic slowdown.
Investors need to avoid being trapped in major pitfalls as the economy becomes increasingly volatile. Some believes that the financial system, under the current situation, is suffering from excessive risk aversion with the overriding sentiment of being apprehensive with a desire for capital preservation.
Investing is not just about price; it is about timing and valuations. It is only natural for investors to over-react to good news and under-react to bad news on stocks they would like to acquire.
Is it today the stock market hit bottom? Has the fear reached its peak right this second? Or will the fear get worse, and will the stock market bottom in five months or perhaps in five years from now? Regrettably, I don’t have the answer to those questions.
What I do know, however, stocks will find a bottom and we are closer to a bottom than a top. Consequently, this will definitely create some historic buying opportunities in an uptrend market.
First lesson in investing is that past performance is not necessarily a guide to future performance. However, investors’ perception of the past does shape their views of the future, and it takes time to change these perceptions even in a bear market like the one today. That said, significant bear market rallies are likely and should be possible to benefit from them, as happened last week, with some returns over the shorter term.
Investors’ attempt to profit from bear market rallies is challenging and they need to have the flexibility to commit funds when an area of the market is looking distressed and offering good value. While nothing can be certain in the current volatile environment, investors will continue to shift their expectations.
To those investors who continue to take risks to generate returns, they need to diversify the risk in their portfolio in order to achieve a better chance for greater returns. This is the principle strategy for risk aversion and, remember, a well diversified portfolio of real assets, in the form of stocks, will be worth a very great deal. That doesn’t mean just buying stocks of different companies, investors must diversify industries and sectors. Of course this does assume they have a long-term investment horizon of a minimum five years.
Yes, despite all the losses, stocks have by far the greatest tendency for recovery when the world comes out of this crisis.
(Habib F. Faris [[email protected]] is CEO & managing director of FinaVestment Ltd., London.)
