Market Musings

We are not there yet, but....

Returns for March

A positive month!

March saw a broadly based rally from the end of the first week- albeit almost certainly a bear market rally (ie one which will falter). Nonetheless, it was quite cheering to see some upticks for a change. Hidden among other positive gems was the longest contin-uous rally in the US S&P index since 1938! Euphoria should, however, be contained, as the FTSE relinquished most of its gains as the month drew to an end, before recovering them again on the last day of the month.

What about the longer term?

The short term fluctuations have been pretty horrific but we are always told that equities are for the long term. If this is so, what is the longer term prognosis from here?

There are historical relationships between various factors; one is the price:earnings ratio (PER) of share prices and the average annual real returns over the following decade.

Y=-0.8865x + 20.377

..which means that the higher the price of shares compared with that share's earnings the lower the return going forward; con-versely, the lower the PER the higher the returns will be. The PER for the UK market has recently been hovering around a PER for the UK market of 8; this correlates to an average real return over the following ten years of 13% per year (see graph on left); ie more than 10% a year over and above inflation for the next ten years, which we have not seen since 1980 - source : Cazenove January 2009.

Another study (SocGen:June 2008) has shown that over eighty percent of the return from a particular share over five years is driven by dividends, and earnings growth, while nearly two thirds of its performance over one year is driven by other factors, such as market sentiment, driving a change in its valuation.

These both imply that buying shares of companies with good earnings growth on the current low PERs should reap good rewards.

So, what do the investment houses think?

On a 12 month +/-5% view the consensus lately has been fairly neutral on most assets, with few changes over the preceding months. Now many investment houses have changed their views, giving a positive consensus on UK equities. They are also positive on US, Pacific excluding Japan and Emerging market equi-ties, although not on UK or US smaller companies, and are also negative on European and Japanese equities. They are still negative on all property and fairly neutral on curren-cies. They remain positive on corporate bonds but neutral on gilts and international bonds.

As ever, this masks significant variations; some are entirely positive on equities, while some others are either negative or neutral across the board on them. What is interest-ing, though, is that there is now significant variation on currencies and fixed interest in-vestments - with some investment houses entirely positive or negative across the board on both; this may well reflect their specific holdings - especially in fixed interest, where dealing is very difficult.

As stated last month, we are in for a bumpy year, but it is when the outlook appears darkest that the best investment opportunities are usually to be found. Provided you have a few years' investment horizon ….

The above is not intended to imply any advice.
MDM Associates Ltd, MDM House, High Street,
Ripley, Woking, Surrey, GU23 6AN.
(All data: source: Sharescope: to 31/3/09)