The Spread of the US Virus: Close Call AheadThe Financial markets continued to roil and boil with fears that the credit crunch will push the US economy over to the brink. We are probably at a crossroad of the US economy: Survive this and more goodness will come. If not, the global economies will be plunged into a global slowdown
The Fundamental and The Sentiments The credit crunch is essentially a problem of fear. Financial institutions
are fearful of buying non-investment grade notes as their value falls day by day. For every buyer, there is a seller. If no one buys, the seller have to lower the price until a buyer comes along. As the prices of these notes fall, financial institutions which has invested heavily into these notes will have to write off their value. The interesting thing to note is that most of the financial institutions are not actively selling off these notes. They are expecting that once the sentiment recovers and the market starts buying these notes again, they will enjoy a bumper profit. The US is trading at 15-17 PE at this moment in time. Fundamentally, the market is not considered to be expensive. In short, the basic economy looks fine. However, sentiment can turn the tides of the fundamentals. If the market does not turn within the next few weeks, we could be heading into a full bloom economic slow-down. There are two factors that will determine the end results of this debacle: The confidence level and the federal bank
The Confidence Level - No News is Good newsThe first thing to do is to restore market confidence. From the past few days, we have seen how positive confidence has affected the market. The Abu Dhabi Investment Authority invested $7.5 billion in Citigroup, offering the nation's largest bank needed capital to offset big losses from mortgages and other investments. A large sophisticated sovereign fund invested into a troubled bank is a big boost of confidence that the US banking system can weather the turbulence water. It also give hope that other banks will be rescued by similar funds from the cash rich Asians. The US market broke it's losing streak and advanced 1% for the day.
The Ultimate Savior - The US Federal BankThe most important savior in this debacle is probably the US federal bank. One of the reason why the market started falling again after reaching a new high in September is due to the fact that the Fed has hinted that two rate cuts are enough. There will be no more cuts. Since than, the financial landscape has diminished with more banks announcing problems and write-offs. In the last few days of the month of Nov, high ranking fed officials gave hints that more rate cuts might be inevitable as things are looking bleaker. The market confidence is rebuilt again with the market moving up 3.5% in two days.
Bear or No Bear?For now, the disaster of a recession may be averted in the near term. With confidence slowly being built back, the US economy may recover from the shaky stumble and start to move on. The market will encounter much volatility in the future as the market grapple with a flood of positive and negative news. The modest valuation and low interest rate environment makes the probability of a recession on the low side. However, even with a modest fundamental, lousy sentiment can still drive the economy to it knees and plunge the world into another recession, 4 years after the dot com bubble.
One asset class that stands out is the long term government bond. Legg Mason Global Bond invest in US and Europe government bonds. It has not been performing well from 2004 to the early 2007 due to raising interest rates and inflation. With the loom of a possible recession, Government bonds rallied strongly. It is recommended that investors reallocate their bond components to long term government bonds, away from the shorter term money market funds. A decent return of 5% is expected from the bond funds from now onwards.
One asset class that stands out is the long term government bond. Legg Mason Global Bond invest in US and Europe government bonds. It has not been performing well from 2004 to the early 2007 due to raising interest rates and inflation. With the loom of a possible recession, Government bonds rallied strongly. It is recommended that investors reallocate their bond components to long term government bonds, away from the shorter term money market funds. A decent return of 5% is expected from the bond funds from now onwards.
