The global economy is going to endure a significant deleveraging cycle as we move through 2012 – one that will affect most if not all parts of the developed world. It will be accomplished by some combination of default and write-downs, debt repayment and rising savings rates. [Below I outline 8 areas of behaviorial change to watch for in 2012 and 7 ways to invest in such a fluid economic environment.] Words: 1186
So says David Rosenberg (www.gluskinsheff.com) in edited excerpts from his original article*.
Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!), has further edited ([ ]), abridged (…) and reformatted the article below for the sake of clarity and brevity to ensure a fast and easy read. The author’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article. Please note that this paragraph must be included in any article re-posting to avoid copyright infringement.
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Rosenberg goes on to say, in part: promises to be very deflationary and we will have to invest with that prospect in mind, and all the behavioral, political and social shifts that are bound to ensue. [First let’s outline] the eight areas of behavioral change to watch for in 2012 [followed by 7 ways to invest to preserve cash flow and capital, i.e. invest for safety and income at a reasonable price:
1. Extent of frugality on the part of the global consumer (living within our means; retirement with dignity)
For those who were betting on elevated portfolio returns to deliver adequate retirement savings, time has run out. They will have to save the old fashioned way at some point.
Up until now, it has been difficult to demonstrate a clear, broad-based trend toward frugality on the part of consumers. To some degree the “haves” are offsetting the behavior of the “have-nots”, but now that the equity wealth effect is over, the upper-echelon spenders are headed for the down escalator. The most recent resurrection of consumer spending this fall after a first-half lull clearly appears to have borrowed from the future when seen in the light of negative changes in household income and the plunging personal savings rate.
2. Extent of austerity on the part of sovereigns (spending cuts/tax reform)
It is difficult to unequivocally assert that the fiscal challenges in Europe are any worse than those in the United States but each country and region does have their own unique circumstances and challenges. What seems to be common is a relatively high degree of chaos.
3. Change in extent of nationalism (an umbrella for protectionism and isolationism: mean reversion for globalization)
Isolationism falls under the umbrella of nationalism, and so does protectionism. An increase in nationalism will mean that we will need to be extremely thoughtful in our selection of dividend paying stocks. Increased nationalism will impact trade, defense budgets, business costs, currencies, commodity prices and all the productivity factors that have made globalization such an economic positive, particularly in the post-Cold War era.
4. Extent of political movement along the ideological and fiscal spectrum (from gridlock to change)
The outcome of the presidential race may well be the most consequential development of 2012, if not the most important election since Reagan defeated Carter in 1980.
What we are most interested in determining is how rapidly politics, particularly in the developed world, can escape gridlock. Historically, secular economic peaks are accompanied by political extremes, and this time was no different. If politics can make its way from polarization toward the center, the outlook for economic stability improves dramatically, in almost every case.
The U.S., like much of the developed world, will be forced to find ever-creative ways to pay down accumulated debt. Inevitably “taxing the rich” and/or wealth confiscation cannot be ruled out, especially if social stability is threatened by lingering high rates of unemployment, particularly on the youth, adult males and the uneducated.
5. Geopolitical change (wars, elections and regime changes)
Already in Europe, seven governments have been toppled by the debt crisis; Greece and Italy are now run by caretaker technocratic leaders and a political crisis is brewing in Belgium. We also have French presidential elections this spring and Germans head to the polls a year later. The Arab Spring has unleashed rounds of instability, as evidenced by recent events in Egypt, Turkey, which has drifted away from the West in several crucial respects in the past year. Vladimir Putin’s renewed ascendancy in Russia can hardly be construed as a settling development. We will be looking for geopolitical improvement in 2012, even if that is not saying much.
6. Changes in inflationary/deflationary expectations
If a recession is in store for 2012, then the bear market in equities, real estate and most cyclically sensitive parts of the investing landscape has certainly resumed.
The dilemma for policymakers this time around is that they are out of bazookas. Perhaps 2012 will be the year when investors stop fearing inflation and instead embrace the more obvious fundamental conditions that are leading to deflation: declining credit in the face of ongoing expansion in the supply of goods and services.
7. Changes in growth expectations
We will be watching for evidence that consensus expectations gravitate toward acceptance that we are deeply entrenched in recession before we expect to see the next low in the equity markets and, conversely, the next (and possibly last) low watermark in bond yields. Because profit margins are either at cycle highs or all-time highs, even a mild economic contraction could end up exerting a powerful dampening impact on earnings growth.
8. Changes in asset allocation preference (fund-flows/de-risking)
- Corporate bonds with safe yield
- Equities with reliable dividend growth/yield; preferred shares (“income” orientation)
- Companies with low debt/equity ratios and high liquid asset ratios
- Hard assets that provide an income stream. They work well in a deflationary environment (ie, oil and gas royalties, REITs, etc…)
- Sectors or companies with… low fixed costs, high variable cost, high barriers to entry/some sort of oligopolistic features, a relatively high level of demand inelasticity (utilities, staples, health care — these sectors are also unloved and under owned by institutional portfolio managers)
- Alternative assets that are not reliant on rising equity markets and where volatility can be used to advantage.
- Precious metals. They are a hedge against the reflationary policies aimed at defusing deflationary risks— money printing, rolling currency depreciations, heightened trade frictions, and government procurement policies.
For 2012, tactical strategies will be crucial…Investors should be making a special effort to fight dogma and keep an open mind in the coming year — looking to take advantage of both long and short opportunities…[It is] absolutely imperative to remain focused on high-quality investments with preservation of capital attributes, and to use the inherent market volatility that is part and parcel of every post-bubble deleveraging cycle to one’s advantage by becoming ever more tactical and opportunistic in long-short “relative value” strategies.
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