Blog and Website On The Move

For anyone who has been following this site, I am happy to let you know that my blog and website are on the move. As from this week I will be publishing regular short comments on the financial markets and the latest views of leading professional investors at a new home, named II Today. I expect to post comments far more frequently on the new site than on this one. The latest comment can be found here.

All the posts published here over the last 18 months have also been archived to the new site, which you can find by following this link. Alternatively simply paste the URL http://iidaily.wordpress.com into your browser. As now there are two ways you can sign up to be notified every time a new item has been posted. One is to sign in with your email address in the Follow By Email window on the right hand side of the new site. The other is to click the RSS feed symbol just above it and wait for a confirmatory email. Further publishing options will become available in due course.

In a few days, meanwhile, this URL will become home to the new Independent Investor website. The final bugs of the new site are being ironed out, but you can see the outline by following this link, or putting the URL http://dev.independent-investor.com into your browser. Although the new site should display well with most browsers, it has been designed with Mozilla Firefox specifically in mind, and is best viewed in that way.

Please accept my apologies if you come across glitches in either the blog or the new website. There are bound to be some some. The new newsletter I have been promising for months I expect to become open to paid subscribers very shortly. Do feel free to let me know if you are interested in becoming a paid subscriber.

The online subscription service will contain exclusive Q and As with many of the leading professional investors I have come to know and respect over the last 30 years, together with guest columns and my own considered thoughts on recent market developments. The new Independent Investor website also has more detail on my other publishing and investment activities.

I very much hope that over time both the blog and the paid-for newsletter will become known as a home for high quality investment content. In any event I look forward to your continued support. These days the world of publishing is changing almost as fast as the financial markets themselves and that is creating many exciting new opportunities for those of us involved in both activities.
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Mr Taleb Has A Point

There has been a lot of publicity today for recent remarks by Nassim Nicholas Taleb, the hedge fund manager who wrote The Black Swan and Fooled by Randomness, who says he is “betting on the collapse of government bonds'”.  Government deficits, he says, are now “the main danger to the global economic system”.  His view is that “every single human being” ought to bet against US Treasuries. This is, in his view, a “no brainer”.

This is a short extract from his interview: “When I wrote The Black Swan, I realised there was a huge bias in the way people estimate deficits and make forecasts. Typically things cost more, which is chronic. Governments that try to shoot for a surplus hardly ever reach it. 'The problem is getting runaway. It's becoming a pure Ponzi scheme. It's very nonlinear: You need more and more debt just to stay where you are. And what broke Madoff is going to break governments. They need to find new suckers all the time. And unfortunately the world has run out of suckers”.

The real risk ahead for bondholders lies rising interest rates. “Because governments can print more of their own currency, the risk comes from a rise in interest rates rather than a government default. When you have hyperinflation, deficits, or debt problems, with short-term bills you can catch higher interest rates to compensate you for the inflation or whatever return you've missed. By staying in cash or hedging against inflation, you won’t regret it in two years”.

The only comment worth making is that Mr Taleb is fundamentally right. Those with short term trading horizons continue to opportunities to make money from further declines in bond yields, and for a while by their own criteria they too may be right. Deflation fears encourage that behaviour. According to the Financial Times, hedge funds have recently become much bigger players in the US bond market, chasing arbitrage opportunities along the yield curve arising from the effects of the Federal Reserve’s QE programme.

This is not an encouraging sign. The way money is flowing into bonds and bond funds is a perfect example of the Greater Fool theory at work. For most investors, by far the most important priority today is to prepare for the fallout that will inevitably happen when the deflationary cycle eventually turns. The loss of wealth that will ensue from the bond market breaking will make the losses from the stock market fall of 2000-2003 and the housing market collapse seem mild by comparison.

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Managing Money Is Not So Easy Anymore

Return figures for the first half of 2010 did not make for inspiring reading.  Government bonds performed rather well and some high yield and emerging market credits much better still. The main story however was one of renewed volatility and flatlining or declines by most asset classes.  July has so far been a different story however, with several key markets and risk assets turning sharply back up.

This patchy narrative is, frankly, not much of a surprise, given the nature of the economic conditions through which we are living.  Volatile markets moving sideways amidst continuing uncertainty about economic trajectories is very much what the “new normal” is meant to be about. It has not made managing money any easier however. Of more than 2700 UK funds monitored by Trustnet, for example, the median return year to date is just 2%.

According to the latest quarterly survey by Asset Risk Consultants, the average manager of sterling or dollar based private client assets gave back all or more of the gains that were eked out in the first quarter. For many hedge funds, the year has been a virtual washout, despite the fact that on paper volatile markets are meant to be the ones in which they should be thriving. Those dumb, derided retail investors who poured their money into bond funds for the moment look smarter than the pros.

Standing back from the fray, is it possible to see what is going on? While equity markets were clearly due a pause after their powerful recovery last year, investors remain mired in the fog of a seemingly unending struggle between powerful ongoing global deflationary forces and concerted Government and central bank attempts to head off the consequences through monetary expansion and (whisper it not too loudly) competitive currency debasement. 

The inflation/deflation argument seems to ebb and flow from month to month, mainly in response to news flow and shifts in investor sentiment, with little regard to fundamentals. One paradox is that while sovereign debt has been the outstanding news theme of the year to date, it has so far failed to make much of a dent in the performance of government bonds outside the most obviously indebted crisis areas. 

By the same token the argument whether or not the US economy is heading into a double dip recession may have become more shrill, but it is hardly nearer resolution. The evidence on either side, as far as I can see, is so far too inconclusive to award a victory to either side. Leading indicators are pointing down, but that is consistent with a slowdown as well as a new recession. The one certainty seems to be that the Federal Reserve will continue to err on the side of monetary laxity, with a second bout of QE on its way at the first sign of any market panic at deteriorating economic data.

In his latest investment bulletin, the fund manager Jonathan Ruffer likens the current economic environment to a dangerous downhill road. At the wheel sit the drivers of economic policy, desperately lurching from one side of the road to another in a furious attempt to keep their economies out of the ditch. Deflation is the ditch on the left, inflation the ditch on the right. Unfortunately, the faster and more furiously they yank the steering wheel from one side to the other, the more dangerous and erratic the descent becomes.

Mr Ruffer’s view, like mine, is that the final destination of this bumpy ride can only be the ditch of inflation. At present there is “an overwhelming dynamic”, he writes, away from “do-nothing deflation towards the soothingly-delayed consequences of monetary compromise”. Although we are trapped in a period when “the fundamentals of economic forces are willed into quiescence by politicians and bankers”, the only good news is that it cannot last indefinitely.

But if quality real assets are the ones which investors need to own to prosper from the eventual inflationary outcome, the choice is not so simple for those who either lack that clear-cut conviction or feel professionally constrained to outperform over shorter horizons. How soon we reach the final inflationary destination is impossible to predict with precision. (Mr Ruffer, whose funds set out to make positive returns in all conditions, still owns lots of bonds for that very reason).

All we know is that the journey ahead will be full of heart-stopping moments when one or other ditch looks like claiming a new victim. For hazards in today’s financial markets, read spikes in volatility and bonds whose capital value must, as a matter of mathematical inevitability when yields in general are so low, leap around in extravagant response to every minor twist and turn in the ongoing inflation-deflation debate. Markets that are hooked on monetary stimulants will tend to be bipolar in nature.

It is only small comfort to argue that the one sure way to make money in these difficult market conditions is to play currencies, the instruments through which the global game of competing monetary disorder is being played out. Having no intrinsic value and defying fundamental analysis, currencies are the ultimate zero sum game. Seeking to elevate them into an asset class is a sign of how hard conditions for managing money have become while the current “monetary disorder”, as Mr Ruffer calls it, persists.

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A Route Map To The Future?

The technical analyst Robin Griffiths, now working for the blue chip firm of Cazenove, was in more than usually ebullient form at an Investment Research of Cambridge seminar in London last week. With the precision that never ceases to amaze me about technical analysts, he laid out the dates when he expects the next turning points in the market to occur.

As someone who lacks any belief in the mumbo-jumbo theories that typically accompany most chartists’ projections, I nevertheless find the insights of the best technical analysts helpful in forming broad market views (by best I mean those who understand how markets behave in real life and allow their charts to inform, rather than dictate, their views).

The scenario which Robin outlined is certainly a plausible one that makes a lot of intuitive sense in a period when markets continue to yo-yo between fears of inflation and deflation. His starting point is the unarguable one that the big indebted countries, such as the US and UK, are on a different route map to those of the fastest growing developing economies. While the former are still toiling their way through a secular bear market, the latter are in a clear secular uptrend.

In practical terms what he thinks this means is that the US stock market will head down again from its current technical rally, with the S&P index falling from 1100 now to around 940 by late October, which is when he reckons President Obama will introduce a new set of stimulus measures, including a second round of Quantitative Easing. That will give the market one more short term boost before capitulation finally sets in and the market falls back to test its March 2009 lows some time towards the end of 2011, with both yields and p/es down to around seven, a typical end of bear market level.

Although that will probably mark the end of the secular bear market that began in 2000, it will still take some years, in Robin’s views, before the US embarks on its next sustained bull run. That is not likely to be in full swing until the next cohort of young in the American population reaches the economically influential age of 30-35 some time in the period 2015-2020.

For the best developing countries, such as Brazil and India, he argues, the short term pattern will be similar, but more volatile. The key difference however is that these two markets, unlike the US and UK,  remain in a secular bull market and so the medium term picture, helped by a vastly superior demographic profile, will be much brighter.

Robin sees the Sensex index in India (his favourite long term market) first testing resistance levels at 15,000 or 16,000 this autumn before revisiting the former peak at 21,000 next spring and falling back to its current level when Wall Street bottoms towards the end of 2011. After that however, it will be onwards and upwards, with the Sensex index powering on to a succession of new highs while the indebted developed world still stagnates in relative terms.

China and Russia, in contrast, are on quite different trajectories, which makes lumping them in together with the other BRICs less sensible. Robin’s view is that the Chinese market, which is already down 70% from its peak, has further to fall in the short term, but will then move on the higher ground once the current tightening has run its course. Russia has a terrible demographic profile – life expectancy is falling rather than rising, he believes - and is a market that most investors will want to avoid.

My View: I don’t know if the equity markets will retest their 2009 lows, let alone when, but a big setback is certainly still a possibility at some point in the next 18 months, as the ebb and flow of inflation/deflation news will continue to drive short term trading patterns in the market for some time. The consequent volatility will muddy the waters for many market participants.

My best guess for now is still that the markets will move higher towards the end of this year. While large cap equities and the best emerging markets both look extremely attractively priced for the long term,  the risk of a severe correction next year will deter the faint-hearted who cannot face the possibility of another testing down year like 2008.

UK and US Government bonds face the reverse of this outlook: periodic potential gains in the short term, driven by risk aversion and reaction to news flow, offset by the prospect of long term penury for those who buy and hold – rather than trade - them at their current historically low yield levels.

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Siegmund Warburg and Investment Management

One of the intriguing issues raised by Niall Ferguson’s absorbing new biography of Siegmund Warburg is why someone regarded, rightly, as “the most important City figure of the postwar period” should have had such an apparent blind spot about the growth and profit potential of investment management as a business.

Peter Stormonth Darling, the chairman of Mercury Asset Management, the business that grew out of S.G.Warburg’s Investment Department, records in his memoirs how his first instruction on being told to take charge of this backwater in the bank was to “get rid of it”. In 1979 the business was offered, says Ferguson, to two rival banks, Flemings and Lazards, at a giveaway price of £10m. They were, he concludes, “foolish not to buy at the absurdly low price Warburg asked”.

(Editor's subsequent note: In fact they were even more foolish than the book implies. According to the information I received from Mr Darling after this article appeared, the business was in fact offered to Flemings for just £1 and to Lazards for £100,000).

Even allowing for inflation, the asking price stands in striking contrast to the £3.1 billion for which the business was eventually sold to Merrill Lynch 18 years later. (A few years after failing to offload it, Warburgs floated the business on the London market as a largely independent business). More extraordinary still is that MAM’s exit price in 1997 was more than three and a half times that at which S.G. Warburg had itself been sold, somewhat ignominiously, just three years earlier.

As blind spots go, this therefore was something of a corker. Because shareholders in Warburgs retained a holding in MAM, to their eventual considerable benefit, the opportunity cost was nothing like as high as it would have been if the decision to sell had gone ahead. Yet Warburg’s decision was, as Ferguson makes clear, entirely consistent both with his own temperament and aspirations in business, and with the prevailing attitude in the City at the time towards investment management.

Warburg died in 1982, just as the great late 20th century bull market was getting under way, and four years before Big Bang changed the rules of the game in the City for good. While others, including Stormonth Darling, could see the way that investment management was already developing into a profitable business in its own right on the far side of the Atlantic, Warburg never seems to have deviated from his lifelong view that investment management was a second rate activity barely worthy of a high-minded financier’s time.

A number of factors can be detected behind this reluctance. One was Warburg’s strongly held conviction that what he wanted his business to be was an “haute banque” in the grand Continental tradition, a private bank which delivered first class advice and services to its corporate clients and acted throughout with the highest possible standards of efficiency and integrity. Relationship building with big hitters in business and Government, in his vision, was a high calling that invariably took precedence, in both social and moral terms, over the grubbier business of generating transactions for short term profit.

Managing client investment portfolios, an activity which absorbed a fair deal of management time and little (in those days) of profit, was an even lower priority. It did not help that Warburg himself had virtually no interest in accumulating personal wealth and retained an inveterate distaste for the stock market. Those who spent their time in market speculation, in his view, were among the lowest forms of business life, right down there with journalists and economists. There was no deeper insult in the Warburg vocabulary than to describe someone as a “Boersianer”.

As one of his colleagues observed, Warburg was a “capitalist by fate” who “despised money making for its own sake”. His own record as an investor was, perhaps unsurprisingly, mediocre. Deeply risk-averse, and ascetic in his personal habits, he lived well, but without ostentation, and died a much less wealthy man than many of his more money-oriented colleagues and contemporaries.

When he gave investment advice to others, the results, says Ferguson, were sometimes “wholly inadequate”, as in the early 1970s, when despite identifying the roots of the inflation that was about to plunge the Western world into a deep recession, he could come up with nothing better as an investment strategy than a 50-50 allocation to equities and Government bonds. Yet this was also the man whose brilliant mind just a few years later helped to pioneer the index-linked Government bond, a simple but invaluable innovation which has benefited millions since (as even Paul Volcker, scourge of the innovations of investment banks, would surely readily concede).

Another of Warburg's besetting personal characteristic was a lifelong inclination to pessimism. His own experience, he noted once, was “that if one expects miraculous results from investment management, this is the best way to do badly...In the long run the most favourable achievements are obtained on the basis of modest anticipations and by way of policies which rather err on the side of being solid and pedestrian than original”.

Ironically, of course, there is a lot of wisdom in that observation, although it has taken three decades of academic research to confirm quite how soundly based it is. Is investment management a high calling? Not self-evidently. There is plenty of money to be made in it, as history has shown, but at the aggregate level it is by definition a zero sum game. To succeed at it, it definitely helps to believe in the triumph of hope over experience. Siegmund Warburg, a Jew who had fled from the Nazis in 1934, was neither temperamentally nor intellectually inclined to think that way.

High Financier; The Lives and Times of Siegmund Warburg, by Niall Ferguson, is published by Allen Lane. You can search for and buy a copy at a competitive price in the Independent Investor bookshop.


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A Measured View of the Debt Crisis

Edward Chancellor, the financial historian now working for Jeremy Grantham's fund management company, has done more than anyone to illuminate the imminence and consequences of the global debt crisis. In his most recent White Paper on the subject, he picks a measured path through the thickets of what soveriegn debt problems mean for economies and for investors. Among the key points I picked out from his eight page study are these:


1. Rapid increases in sovereign debt don't have to lead to default or high inflation, although more often than not they do. One classic example is Britain after the Napoleonic wars. More recent examples, we know, include Sweden, Finland, and Canada in the 1990s. Swedish gross government debt fell from a peak of 84% of Swedish GDP to below 45% within three years.

2. Inflation and/or currency debasement is however more often than not the way out. It is politically more convenient and generally the easier option. Sometimes, when things have really deteriorated, it is the only option. Because repaying debt rewards the wealthy at the expense of the poor, devaluing the currency is, to borrow a phrase from Keynes, “the line of least resistance… it is, so to speak, nature’s remedy, which comes into silent operation when the body politic has shrunk from curing itself.”

3. The biggest problem today is that many countries today have very large structural budget deficits that cannot be fixed as readily as Britain was able to solve its Napoleonic war debt. The largest structural deficits, according to the Bank for International Settlements, are in the UK (10% of GDP), US, Ireland and Japan. What is more, these calculations exclude both the growing burden of unfunded liabilities such as pension and healthcare costs, which as we all know are enormous, and the bank guarantees given during the recent crisis.

4. A further problem is that large proportions of the outstanding debt of the worst affected countries are held by foreign investors. For Ireland, the Netherlands, Spain and France, the figure is around 60%. In the case of the USA, it is nearly 50%. In the case of the UK, it is around a third. This matters because, if you are looking for comfort from historical experience, in those cases where excessive levels of debt have been successfully reduced to more normal levels, most of the debt has been held domestically, reducing the risk of destabilising capital outflows and/or currency collapses.

Chancellor makes the valid point that it is easy, but wrong, to extrapolate naively from the cases of Japan (since 1989) and the Club Med countries in Europe (today) to argue that a calamitous debt implosion is likely or imminent in every heavily indebted country. The Club Med countries, Spain, Greece and Portugal, for example have specific problems, such as a lack of competitiveness ( exacerbated by their membership of the eurozone), which put them in a different category to the UK and United States. Fiscal retrenchment is already underway in the UK and other countries and may yet, if combined with renewed economic growth, produce an acceptable outcome.

There are simply too many unknown variables to make a definitive forecast of how the sovereign debt crisis will play out possible. The risk of policy errors remains high. Nobodyknows whether the political will to make painful but necessary decisions will hold. In 19th century Britain, when both wealth and political power were concentrated in the hands of a small landed minority, the owners of the debt had fewer qualms about imposing rising unemployment and poverty on the majority to safeguard the value of their debt.

For investors, the important message from Chancellor's analysis is that owning bonds of indebted countries at current prices can only make sense if you are convinced that the worst outcome is where we are heading. In his words, "under only one condition – that the world follows Japan’s experience of prolonged deflation – do they offer any chance of a reasonable return. But this is not the only possible future. For other outcomes, long-dated government bonds offer a limited upside with a potentially uncapped downside. As investors, such asymmetric pay-off profiles don’t appeal to us".

To which I would only add: nor me. Until or unless it appears that the extreme deflationary case is coming to fruition, which is not impossible, but a low probability outcome, I would judge, the safer bet is still that inflation is coming our way. When it does happen, history suggests, it can happen very quickly. How much and how soon are the unknowns. A copy of the White Paper is attached. Recommended.
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The Book That Buffett Likes

An out of print book about hyperinflation has become a cult hit with professional investors in the United States, including Warren Buffett, reports the Sunday Times. The book is When Money Dies, an account of how hyperinflation took hold in Germany after the First World War, leading to social upheaval and, so many believe, the eventual rise of Hitler.

It was written by Adam Fergusson, a now retired civil servant who served as an adviser to the former Conservative Chancellor, the then Sir Geoffrey Howe,in the 1980s. It was first published in 1979 and was republished last week by Old Street Publishing, a small boutique publisher which, I suspect, has been somewhat taken by surprise by all the attention it is suddenly getting.

The book was first taken up by right wing bloggers in the United States last year to serve as an example of the dire consequences that can follow from an excessive build up of debt. Copies of the original hardback are reported to have been changing hands before that for hundreds of pounds - great marketing, if nothing else.

Mr Fergusson himself, to judge by the comments he is quoted as making in the Sunday Times, which challenged him to draw parallels with the task facing the new coalition government in the UK, is a more measured individual than some of those who have talked up the book on the other side of the Atlantic.

"In Britain today" says Mr Fergusson "there is this debate between neo-Keynesians who want to postpone any tightening of the economy and those who say it should be done at once. To my mind it is a non-debate, because politically now is the only time tightening can be done. In a year or so, it won't be possible, politically, any more".

"When governments are not strong or brave enough politically, finally the economy goes to pieces anyway. If you are trying to decide whether to go for quantitative easing or high unemployment, in the end you'll have both". This seems to me a very valid point, and one that serves as a useful corrective to the somewhat hysterical debate between different schools of economists over how far and how quickly to bring public spending back under control. In the UK, certainly, the new coalition government has to use the political capital the election gave it while it can.
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Heading Into The Equity Grind

Sometimes a good graph can be worth a thousand words. I am grateful to Robert Buckland of Citigroup for this helpful illustration of stock market behaviour after the largest market falls of the last 30 years. This shows in his words how equity markets typically move through a phase of strong recovery in the 12 months after a market plunge (the “equity surge”) to a period of more consolidation or gradual improvement (the “equity grind”).

Of course this time it could be different, and if you care to follow the warnings of Professor Nouriel Roubini and others, we could be in for a further gruesome period for equities as a double dip recession in developed countries starts to bite. However there is a reason why the phrase “this time it’s different” was described by Sir John Templeton as the four most dangerous words in investment. It is that believing the adage will often lead you to a dangerous conclusion. (Pedants might say it is five words, but that is another matter).

There is no doubt that the technical position of the equity market has deteriorated in recent weeks. Earnings upgrades, as noted earlier, are starting to run out of steam. There is certainly no shortage of negative news around. But that does not mean that equity markets cannot move higher over the balance of the year and that I still suspect is what they will do. In the short term equity markets look oversold, and many professionals I rate highly tell me they are finding bargains at current levels. That won’t make the pace of equity market recovery any faster, but it does provide a measure of comfort.

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The Budget: A Start Down The Road

There was nothing in George Osborne’s emergency Budget on Tuesday to contradict the idea that the transition from Labour governments to Conservative (or in this case Conservative-led) ones tends to be good for the investing classes. The fall of the Callaghan government in 1979 was followed after an initial period of uncertainty by the start of an 18-year bull market that was resilient enough to survive two nasty recessions, the 1987 crash and our undignified exit from the ERM in 1992. There were similar bull markets for shares in the mid-1930s, following the formation of a Conservative-dominated National Government, and in the Eden-Macmillan years in the 1950s.

This time round, the stock market response is again likely to be positive, once it has had time to digest unpalatable items such as the rise in capital gains tax for higher-rate income tax payers. Raising the top rate to 28% rather than 40% or higher is less of a sop to the Lib Dems than many Tories had feared. Osborne’s measures are generally a boost for the private sector. Indeed, by leaving the onus on the private sector to lead the UK out of economic recovery, he has firmly rejected neo-Keynsian solutions in favour of hitching the administration’s fortunes to those of its natural constituency.

The proposed year-by-year cut in corporation tax down to a record low of 24 per cent, and the commitment to ‘simpler rules and greater certainty’ for companies generally, are all to the good. At the macroeconomic level, his vigorous assault on the fiscal mess that Labour left behind is what markets had expected. The devil is in the detail however and the numbers will be rigorously scrutinised for fault lines. It will take time therefore before we can judge whether the results succeed in confounding the jeremiahs of the economics profession, who insist that keeping the public spending spigots open for longer is essential to avoid a second recession, as Geoffrey Howe’s famous 1981 budget was eventually able to confound the nay-sayers of the day.

Prospects for those whose investment horizons do not extend beyond home shores are certainly better than they were under Gordon Brown, but not yet as good as those whose do. UK companies which have succeeded in surviving the debt crisis have rarely been in better shape financially, and in many cases shares look reasonable value. If what Keynes called the corporate sector’s “animal spirits” can be roused, and sterling remains competitively priced, then there is room for profits and investor returns to exceed expectations.

But the fortunes of the UK will remain constrained by the burden of public debt and the painful side-effects for employment and growth of Osborne’s campaign to diminish it. At best it will be a case of two steps forward and one step back for UK plc, forced to compete in international market against less constrained rivals. The weakness of the euro is already doing wonders for German industry, for example.

Fortunately, twenty years of free-moving global capital flows have significantly increased the correlation between the performance of the main asset classes in different countries. Innovation has also greatly increased the range of markets in which private investors can readily invest. That cuts both ways: almost half BP’s dividends before the current disaster were being paid in dollars to investors outside the UK. No UK investor any longer has to place a binary bet on the success of Osborne’s strategy however.

Despite gloomy headlines about possible meltdown in the eurozone and fears that the US economy may be heading for a second recession, the global economic news has been good. The annualised rate at which global industrial production has been recovering since the darkest days of the credit crisis has been unprecedented. Giles Keating of Credit Suisse points out that car sales in the three largest economies (Germany, Japan and the US) are still well down on pre-crisis levels, yet in the eight largest emerging markets they are growing strongly. Taken together, global sales of cars in these 11 economies are already back above their pre-2008 average.

Indeed, so well are low-debt and emerging economies doing that some are already starting to confront the problems of too rapid growth, through interest rate rises and tighter monetary control. China’s attempts to control its real-estate bubble have captured most of the headlines, but the Chinese are not alone. Brazil grew at an annualised rate of 10 per cent in the first quarter and interest rates there are heading up; so too in Australia and Canada. The evidence to date has confounded the many who doubted that there might be a V-shaped economic recovery.

In the absence of serious mistakes by governments and central bankers, not something that can alas yet be discounted, the odds on further recovery are improving, but with the indebted developed world continuing to lag the developing world. It is true that many investors remain to be convinced. Risk aversion explains why, although share prices are still handsomely above the lows of early last year, yields on government bonds remain stubbornly low.

So too, with the notable exception of gold, are the prices of most commodities. That is not a pattern you would expect to see if sustainable economic recovery was now a universally accepted fact. Banks in the eurozone remain vulnerable and will need to be recapitalised, while the blundering way that the EU and ECB have handled the Greek debt crisis is not an encouraging omen.

Experience shows that a good investment strategy has several elements: an understanding of value, since buying cheaply is the only thing that guarantees good returns; diversification, to protect against mistakes and unforeseen risks; a longer-term focus, for consistency and the avoidance of pointless trading costs; and a strategy that matches the investor’s temperament and tolerance for risk. One Budget can make only so much difference. 

Looking back to 2000, no more than half a dozen good strategic calls, some running contrary to consensus opinion at the time, would have ensured a profitable decade. One was to buy and hold government bonds, which have been in a more or less continuous bull market since 1981. Another was to buy and hold commodities, which despite recent stalling, remain in one of their generation-long cyclical upswings. A third was to be out of equities when valuations rose above historic norms, as they were in 2000 and 2007, while increasing (for those with the tolerance to ride out short-term volatility) the proportion in emerging markets.

Property remained a good bet for the first half of the decade, but killed anyone with excessive leverage when the credit crisis hit. Sterling, surprisingly perhaps, ended the decade at almost the same price in dollars at which it started, and needed no long-term strategic call. Wine and art had a terrific decade.

Anyone who got those calls right could easily have trebled their wealth over the period — not bad in a decade when mainstream asset classes and allocations produced disappointing returns. The credit crisis of 2008 underlined how the diversification value of so-called alternative assets such as hedge funds and private equity proved illusory when trouble hit. Many turned out to be nothing more than debt-leveraged equity holdings that proved difficult or impossible to sell. 

Looking forward to the next decade, some of these trends, including the rise in emerging markets, are set to continue. Current prices for emerging-market equities still leave room for long-term gains. So too do prices of many large dividend-paying companies in developed markets. Equities in general are certain to enjoy a better decade than the one just finished: there has never been an example in history when a decade of flat equity returns failed to produce above-average returns in the next one.

Other trends will reverse completely. For the first time in nearly 30 years government bonds in the main issuing countries look extremely unattractive on anything but a short-term view. Bonds issued by stronger, more politically stable emerging countries look better value. However firmly the new government wrestles with the public finances, all historical experience will have been defied if higher inflation is not part of the eventual solution. Unfortunately inflation-linked bonds, one obvious hedge, are currently dear.

The factors behind the global commodity upswing remain in place. Expect higher prices over at least the next five years not just for gold and silver, which are bulwarks against the monetary debasement now being practised around the world, but also for oil, timber, industrial metals and agricultural commodities. Although the UK’s ability to devalue has given us a helpful jump-start over eurozone competitors, the longer term implication is that the dollar, sterling and the euro (if it survives) may continue to weaken over the next decade relative to the currencies of faster-growing or resource-rich developing countries. The UK’s fortunes are looking up after this week’s Buidget, but economic miracles sadly need more time to gather real momentum. It is a start, but no more

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Q and A with Jim Rogers

Jim Rogers, who co-founded the Quantum Fund, regularly speaks his mind on the outlook for global markets from his new home in Singapore. I have been talking markets with him for more than 10 years. In a Q and A session with Independent Investor, he offers his latest views on China and Korea, on the dollar and the euro, and on gold, silver and other commodities. Here is a short extract from the 20-minute conversation.

I’d like to start by asking you to explain what you think has been happening in the markets in the last month or so. They’ve been very jittery - we’ve had the Eurozone crisis, we’ve had the Israeli situation, we’ve got worries about Korea and so on. Are these worries you share, or is this just normal market action that we’re seeing here?

I hope you and everybody is worried too because, you know, we have great imbalances in the world that have to be sorted out. I mean, we’ve got gigantic debtors in the West, and gigantic creditors in the East, and we’re going to have more problems: more currency turmoil; we’re going to have more financial problems – this is not over yet.

Some people are saying that there is a serious risk of returning to a re-run of 2008 and the banking crisis – is that something you share?

Well, of course I do. There’s no question about that. It may not be the same actors, it may not be the same format, but, again, the United States essentially is bankrupt, the UK essentially is bankrupt. There are a lot of companies and countries in Europe which are getting a lot of press right now, but nobody can pay off these debts.

If you would like a transcript of the full 3000-word interview, please email me at editor@independent-investor.com. The full interview, and others in the series, will be available free of charge for subscribers to read or listen to on the new Independent Investor website. This is currently in beta format and will go live shortly.
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