The Investment Thoughts of the Hamilton Financial Panel

The Investment Thoughts of the Hamilton Financial Panel

About twice a year, Hamilton Financial, Independent Financial Advisors invites some investment luminaries to discuss the current global economic situation and make some predictions for the future. Here is a synopsis of the debate chaired as usual by our Chairman Alex Hammond-Chambers (former Chairman of Ivory and Sime and director of a number of investment companies). Other members of the panel were: Angus Tulloch (joint managing partner, Asia Pacific/GEM Equities, First State Investments), Max Ward (former partner of Baillie Gifford and current manager of The Independent Investment Trust plc), Robbie Hunter (investment Manager at Gillespie MacAndrew). 

The Discussion

AH-C: I’d like firstly to take a look at what the big trading nations are doing to help their economies.

AH-C: Angus, let me start by asking you about a chart I saw the other day showing the Chinese Stock Market has fallen circa 60% in just under 3 years. Given that China is now so important to the world economy, is its stock market sending out a warning?

AT: No I don't think so. The stock market in China is dominated by the natural instinct of the Chinese to gamble; it is a largely closed market and not really a barometer of economic conditions. China’s problem is excess liquidity, exacerbated by artificially low interest rates. Until interest rates are raised to a level which is above the level of inflation, its government will face having to tackle one speculative bubble after another; first the stock market, currently property and next, possibly, gold. The export driven fundamentals of its economy are not particularly affected by this yet; however, in time, China must both consume and import more.

AH-C: Thanks Angus. Now can we take a look at the USA, which as far as I can see, is the one major country that’s doing little to address its fiscal deficit? President Obama seems addicted to economic morphine (printing money) with no real plan to balance the books – are we nearing the point when the US dollar goes to hell in a handbasket?

AT: The fate of the US Dollar is inextricably linked to China; China exports its goods to the US and lends money to the US by buying US Treasury Bonds; the US uses the money to buy Chinese goods; just as companies like Jardine Matheson opened up Chinese exports to British markets in the nineteenth century by encouraging China to become dependant on opium, so the Chinese in the twenty first century have helped their exports of manufactured goods by getting America hooked on Chinese finance (80% of Chinese reserves are invested in US Treasury Bonds). It’s a bit unstable…..

MW: It’s certainly an unhealthy relationship but I’m not sure it’s unstable. China doesn’t have any option but to buy US Treasury Bonds.

AH-C: What about other countries’ bonds such as Japan or EC?

MW: These are a drop in the ocean and both the Yen and the Euro have huge issues of their own.

AH-C: What about gold?

MW: The gold market is small and thin, which means China cannot buy enough to make a difference and so the only way it can increase its exposure is by driving the price up. This rather defeats the object of the exercise.

AH-C: What happens if the US Dollar collapses? I mean China surely won’t continue to buy US Treasury bonds if the value of the Dollar collapses?

AT: If Obama doesn’t take some action to address the US deficit, the dollar has to collapse – eventually. Look at how the Romans kept on printing money (by reducing the dinar from pure silver to a metal compound containing no silver) with the inevitable result.

AH: Yes but that took 400 years!

MW: That’s my point: this unhealthy relationship will last a lot longer than you think; beyond our lifetimes at least and if you are bearish about the Dollar, can you please take me through the merits of the Euro, the Yen and the Pound? (Deafening silence!)

MW: Although the outlook for the Dollar is dire, the outlook for all other major currencies is even worse.

AT: I agree.

AH-C: If J.M Keynes was still alive, I am informed that he wouldn’t be advocating bigger deficits as a way of getting us out of recession.

MW: I’m going to have to trump you Alex. Robert Skidelsky, who knows more about Keynes than any of us, is adamant that Keynes would support the continuation of high deficits!

AH-C: Bowled middle stump!

AH-C: Moving on now to Europe. It is clear that European governments led by Mrs Merkel are trying to rein in expenditure. Whilst the manufacturing economies of Germany (and to a lesser extent France) are reasonably sound, their banking systems are not. They have lent huge sums of money to the Latin underbelly of Euro Europe in the belief that being Euro denominated made them safe loans. At least Euroland is trying to deal with its fiscal deficits; if they succeed, then arguably, the Euro will survive; Robbie what do you think?

RH: My view is simple, without political union, monetary union won’t work. I think we’ll see Club Med (Portugal, Italy, Greece and Spain) leave the Euro, leaving the Northern countries in a single currency of their own.

MW: Yes, I can’t see the citizens of Germany putting up with the situation for much longer. There is no way the Greek government can ever repay Germany the money it has borrowed. Germany might just as well give this money to Greece and possibly Spain and Italy as well!

AT: You have to say that Ireland is one of the few governments in Euroland which has properly embraced the business of cutting public expenditure. And of course you know why? The Irish understand that the price of a good party is a hangover – but they also know better than most that after the hangover comes another good party!

AH-C: I think there are still member states waiting to join the Euro – for example the Czech Republic and Poland – do you think they will join and if they do, does it matter?

MW: The EC would be insane to accept any new members without very good economic credentials. And there is zero chance of Britain joining.

AH-C: So we think the Euro is doomed?

MW: Yes, though when, I don’t know.

AT: I think so too, though don’t underestimate Brussels wish to try and keep the corpse breathing for as long as possible.

MW: The Euro project is doomed without political union.

AH-C: We are led to think that it is only the British that are opposed to a single European currency. Sarah and I have just come back from a weekend in Berlin – believe me the Germans are no lovers of the Euro!

RH: The EU and the Euro were partly a reaction to two world wars. It isn’t clear as to whether young Brits know or care much about European history. I read in the Daily Mail (so it must be true!) that after asking children in an English primary school if they’d heard of Hitler, most of them thought he was a football manager.

AH-C: Can we now turn our thoughts to the UK? The new coalition’s budget was politically adroit but economically suspect; suspect because it’s deeds and not words that count. Has Cameron got the guts to make the cuts that appear to be necessary? Can the coalition survive in the face of strong and entrenched opposition?

RH: The coalition should be given credit for (a) recognizing the depth of the problem and (b) seeking to take the necessary steps to get Britain out of debt.

AT: And the currency markets are giving us credit too – the pound has had a decent run.

MW: The government has to stick to its guns. Do you remember Geoffrey Howe? His austerity budget of 1983 caused an outrage amongst Conservatives and economists alike; Howe was deeply unpopular at the time but, as it turned out, he was right and “they” were all wrong; an austerity budget at this time is what’s needed.

AH-C: I listened recently to a speech by Merryn Somerset Webb, editor of MoneyWeek, in which she likened the amount of money in circulation to water in a reservoir; topping up the reservoir with more water (cf printing more money) won’t necessarily result in more water flowing into peoples’ homes if they don’t turn their taps on (cf the extra money just stays within the banking system). So it is with money: if the money doesn’t get through to consumer expenditure, then it doesn’t matter how much money the Bank of England prints, the economy suffers and, in all likelihood and rather like Japan, there is deflation of prices. What do you think is going to happen here with inflation or deflation and interest rates?

AH: With massive job cuts round the corner, I don’t think inflation is going to be a problem. My guess is that interest rates will be staying low for at least another 18 months.

RH: Yes and no! I think much depends on the people’s reaction to the Coalition’s proposed public sector cuts. If the reaction is hostile - like the Greeks - then the government’s response may be more quantative easing. This in turn would be inflationary and if on top of this, Chinese workers start to demand higher wages (back to China again!), this will also result in higher prices. So I think inflation continues to be a real threat.

AH-C: OK, gentleman, let’s bring this altogether and talk about markets – Robbie, what are your thoughts?

RH: I continue to like “infrastructure”, emerging markets and stocks involved in “water” and “agriculture” (the world is short of these commodities).

AT: I think in this downturn, this is a classic time to look for companies with a good story, strong cashflows and safe earnings. For safe earnings I include “utilities” so long as they are regulated in a way that allows them to raise prices in line with inflation.

MW: I couldn’t agree with you more about it being a great time to invest in good companies. Personally, I am against bonds – the returns are awful and they are also at risk from inflation. At Independent, we have concentrated on two categories of company. The first category is cyclical companies with strong balance sheets such as Aggreko, the retailer Supergroup, engineering stocks such as Renishaw, recruitment companies and yes, the best house builders! The second category is defensive businesses with good yields such as the tobacco companies, pharmaceutical companies and non life insurers. I also like “utilities”, not least because a number of them are now selling at depressed valuations.

AH: I had noticed that the Persimmon share price has bounced back – given the recession, I’m amazed.

MW: Persimmon is a brilliant example of how to cope with recession. They have reduced their annual wage bill by 25%, reduced their debt from £1.2 billion to £200 million without having to raise new equity and yet they still have “eight year Landbank”. There are lots more good corporate stories out there.

AH-C: Thanks very much everyone. As an investor who is no longer at the coalface (managing people’s savings), I am a tremendous fan of well managed funds; it is impossible for private investors to know exactly what’s going on; I like to invest with fund managers who have a really good grip of sound investment principles and leave them to worry!

Editor’s note

If you have enjoyed reading these investment thoughts and you would like our advice on where to place your savings, please don’t hesitate to get in touch.

Andrew Hamilton FCA CTA Cert PFS

anh@andrew-hamilton.co.uk

0131 315 2469