The terrorist attacks of 11 September have pushed a teetering US economy over the brink and into rec...
The terrorist attacks of 11 September have pushed a teetering US economy over the brink and into recession. While we had expected to see economic recovery in the fourth quarter this year, we now expect the third and fourth quarters to show negative GDP growth and the recovery to be delayed a further six months until the second quarter of 2002.
Consumer confidence has been severely damaged by the attacks on US soil. Confidence was already showing signs of weakening before 11 September but that deterioration is now likely to accelerate. The combination of weak capital spending and a nervous consumer is likely to push the unemployment level higher.
While the near-term economic outlook has worsened, our confidence in a robust recovery has improved. The depth and duration of the downturn is now more severe, but the corollary is that the recovery will be stronger and faster while the likelihood of a V-shaped recession and recovery is now far greater.
Given the deterioration in the economic outlook, the Fed has been aggressive in easing monetary conditions. Interest rates have been cut nine times this year, from 6.5% to 2.5%, the lowest rate since 1962. We expect that interest rates could fall to 2% before year-end as the Fed attempts to reflate the economy and avoid deflation.
The equity market has sold off sharply since August, resulting in the Dow Jones index suffering its worst quarterly fall in the third quarter (down 15.7%) since 1987. The events of 11 September have introduced new uncertainties that have hit markets hard. The expectation of recession and the delay of any recovery by another six months has seen earnings estimates revised downward once again, particularly for the more cyclical areas of the market.
Worst affected are the technology and industrial groups. Hopes for a cyclical bounce in earnings for many of these stocks have been dashed, and earnings are not expected to re-accelerate until the second half of 2002. Retailers have also been hit as consumer spending is forecast to decline throughout the rest of this year.
Not surprisingly, the best-performing areas of the markets were those with a more defensive bias such as healthcare, consumer staples and telecoms. The greater reliability and visibility of earnings for these stocks provide a safe haven in such turbulent times.
Despite the recent rally in the markets, we believe it is still too early to position portfolios with an aggressive cyclical tilt. The depth and duration of this recession are still unknown quantities and there remains a lack of confidence among investors as to the accuracy of corporate profit projections for the next two quarters.
Nevertheless, we are mindful that the decision to move portfolios toward a more cyclical bias is not far away. Many stocks have sold off to the extent that they are nearing multi-year trough valuations. This suggests that, while the exact timing of their recovery is unknown, there is little further downside to be had. Such risk/reward propositions are compelling for the longer-term investor and we must be ready to take advantage of such opportunities as and when they arise.
Strong performance from defensives.
Potential for further interest rate cuts.
Strong risk/reward propositions in market.
Consumer confidence damaged by attacks.
New uncertainties in market.
Duration and depth of recession unknown.
Ruprt Howard, fund manager, US equities, Aberdeen Asset Management
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