By Robert Stock Investors need more realistic views on returns as risk premiums on equities are at ...
By Robert Stock
Investors need more realistic views on returns as risk premiums on equities are at historically low levels and return on cash invested is also in decline, according to Merrill Lynch Investment Managers.
Ewan Cameron Watt, head of UK strategy, told intermediaries to expect a change in investor sentiment if world equity markets return negative growth for the third successive quarter, a situation not seen since the bear market of 1973.
He said: "It has not been a particularly easy year to make money and there is no reason to assume it is going to get any easier this year, however that is not to say the markets are going to crash. We have just got to adjust to the idea that the free lunch is over.
"Since 1970 people have made money on a consistent basis from equities and they have become very bullish. For the first quarter of this year, world equities were up and in the second and third quarters they were down. If this continues we are going to be seeing some change in investors' attitudes."
Cameron Watt said it was important to remember that 70% of returns on equities have come from re-ratings, however, the defining trend of the past 100 years has been a move towards economic stability.
He said in the period from 1900 to 1950 the global economy was in contraction for a third of the time. That had dropped to 15% between 1950 and 1982. Between 1982 and 1999 it had fallen to just 6%.
That has led to a much greater certainty of economic outcome and a trend of shrinking risk premiums, he said noting that IFAs' asset allocation should reflect this with an increased weighting in bonds.
He said: "The risk premium has shrunk to the point where it can't really deliver, which has been the experience of this year. Consequently the gap between what you expect to return and your actual outcome has increased. If this sets in there will be a definite change in investor sentiment which I do not think has happened yet."
Cameron Watt noted that over the 12 months to the end of October the stock markets in North America, UK, Japan and Europe have all posted negative returns, but money was made out of healthcare, energy, utilities and financials.
However, telecommunications and IT have not performed well, indicating the importance of picking sectors, a fact borne out in 1998 and 1999 as well, he said.
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