Recession or Value Shares
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Trading Features / Strategies from Simon Denham of Capital Spreads.
As markets get tougher so the wolves begin to strike. Bear Stearns and Lehman were forced into swift denunciations after rumours circulated about possible Chapter 11 situations. Whilst the security of the companies is not reasonably in doubt the mere mention of weakness will have its negative effect. Twitchy depositors, fearful of losing substantial sums will be edging towards the exit and Bear Stearns stock (already hard hit over the past year) touched new lows at almost $60 some 65% off the highs of last January (at $172.50). This is capital destruction on a grand scale and the US consumer whose wealth is generally measured by an accumulation of property, equity and bonds will be pushing back that early retirement date yet another notch.
Swaps spreads on corporate bonds widened yet again and insurance on defaults hit all time highs. This is actually quite curious as defaults on corporate loans are just about at an all time low. The cumulative effect of all the negative news, fact and perception, has driven the cost of protection beyond all but the desperate. If the insurance costs become too extreme then more and more funds will just shut up shop and wait for the storm to abate, the chances of companies getting new funding away are severely limited. So what you might say?
The problem is that most corporates do not have the cash just lying around for any development projects, growth strategies, infrastructure improvements etc. They will generally tap the credit markets as a way to oil the wheels of growth. With the credit markets still in deep freeze and the bond markets becoming ever more illiquid the prospects for future growth become ever more terminal.
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This is a classic variant of how the woes of the financial markets can move into the mainstream economy but coupled with this are the drastic increases in Factory input prices in both the US and the UK as their respective currencies sink below the surface. With a belt tightening consumer at one end the last thing that producers need is increasing costs at the other. Whilst I must warn against excessive bearishness it must also be mentioned that margin squeezing on this scale is not good news for shares.
Looking across the landscape of equity returns we can see that some of our biggest (and many would think most stable) companies are giving current returns of well above base rates. (i.e. Barclays, net, 8%, RBS 10%). This level of return might look very very attractive but it must be remembered that share prices are always correctly priced for that moment in time. We might privately think one thing or the other but at the closing price last night there were willing sellers just as there were buyers. The market always gravitates to the price where fear and greed match off.
Even though both these institutions recently gave record results and upbeat statements enough of the people who matter, the big investors, are not happy. For the stock to be sold to what look like give away levels indicates a buying moratorium across the investment fraternity.
At some point the elastic band of value will snap back and everyone will look back and wonder “oh why did I not buy when everything was so attractive?” But with the cold winds of the “R” word possibly blowing in the wings now is probably not the moment to dive in.
The above comments do not constitute investment advice and neither Capital Spreads nor Clean Financial accept any responsibility for any use that may be made of them.
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Risk Warning: Spread betting carries a high level of risk to your capital. You may lose more than your initial investment. It may not be suitable for all investors. Only speculate with money that you can afford to lose. Please ensure you fully understand the risks involved and seek independent financial advice where necessary.
Article provided / approved by Capital Spreads which is a trading name of London Capital Group Ltd which is authorised and regulated by the Financial Services Authority (FSA), FSA Register number 182110.
'Recession or Value Shares' edited by SD, updated 11-Mar-08
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