Accounting scandals have intimidated US investors and the stock market has tumbled over the last mon...
Accounting scandals have intimidated US investors and the stock market has tumbled over the last months. The S&P500 lost 21% since the beginning of the year and as much as 13% since June.
Alan Greenspan said at the House Financial Services Committee in July that despite the fall in the stock market, he expects the economy to do well this year.
'The US economy is doing well and, according to Green-span, will grow by up to 3.75% this year,' says John Hatherly, global analyst at M&G. 'Consumer spending is good but capital spending is still low.
'He also confirms interest rates will remain unchanged. I think the Fed is concerned about the need not to rock the boat.'
Despite positive news, the pressure is mounting on the government and corporates to change governance as a result of the recent accounting scandals.
Hatherly adds: 'The big question is how the economy will be affected by the lack of investor confidence in corporations that had accounting misrepresentations. There has been pressure on the government to alter corporate governance policy.'
Greenspan also said consumer confidence has suffered owing to the fall in the stock market. But Alison Wright, investment manager at Britannic, does not believe the lack of confidence will have a major impact on spending.
She says: 'Consumption has been very strong and the retail sector is among one of the economy's strongest sectors. There have been some concerns over the potential impact of the stock market on consumer confidence. The high income individuals who have investments in the stock market and mutual funds will feel their income eroding from the low market levels and might choose to spend less.
'Greenspan said consumer confidence has fallen, but confidence is not always a good indication of how much consumers will spend. After 11 September, consumer confidence showed low figures but spending was good.'
Hatherly explains retail has been holding up well as inflation and interest rates are low and consumers are content to borrow.
Despite a slow improvement in unemployment levels the sector has held up well. Consumer spending in the economy rose at an annualised 3.3% from January to March. Also, the buoyant housing market in the US has supported the retail sector.
'The two key factors for the retail industry are unemployment and housing,' explains Wright. 'Unemployment has not declined in the way we expected it to since the economy also grew in the first quarter. But there is a risk we will see another round of job losses before it improves.
'Wealth is tied up in the housing market and as the housing market has been strong, individuals have seen the price of their house increase and their security grow.'
The sector tends to have a negative correlation with other aggressive sectors and Wright says once sectors such as industrials and tech start to pick up, the retail sector might not do as well.
fund manager comment: M&G
Commentators on the US stock market have watched in disbelief as the S&P Composite Index has plunged to levels not seen since 1997. Sentiment has grown ever more pessimistic and confidence has been ground down by a succession of accounting problems and corporate scandals and by the cautious tone of trading statements emerging from companies.
Both the S&P Composite and the Wiltshire 5000 Index have lost more than 40% of their value since their peaks on 24 March 2000, a severe bear market by any standards. There are plenty of grounds for caution. Absolute valuations remain demanding by most standards, although equities are cheap relative to bonds. The much-heralded revival in the economy has materialised, although it is uneven and heavily dependent on the continued willingness of consumers to spend. But it has failed to generate the expected rapid recovery in profits, which demanding equity valuations were discounting.
There is no single solution, but three key aspects come to mind. First, continued economic progress, in the shape of steady economic growth coupled with a lack of inflationary pressures. Second, evidence that companies are seeing improving trading prospects. That may not materialise until the third-quarter. Despite the high valuation of the equity market, a positive change in corporate newsflow will help build investor confidence. Finally, progress on the accounting/corporate governance front, which is sufficient to start to restore confidence in corporate America.
A technical US stock market rally is overdue, although the high valuation level will probably lead to further underperformance relative to other leading markets. Buying interest in US equities will probably be confined to specials situations or favoured themes.
John Hatherly is head of global analysis at M&G
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