Meera Patel: Rays of sunshine amid the gloom

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The Independent Online

This year has been traumatic for investors. We have lived through a financial crisis of mammoth proportions. The sheer size of the bail-outs and write-offs have been astounding. According to the Bank of England, the total losses worldwide could reach $2.8 trillion (about £1.8 trillion).

The current financial crisis was precipitated by a bubble in the housing market, but it didn't stop there. It filtered down to the banks first. Northern Rock was the first UK bank to be nationalised. We saw the collapse of Bear Stearns. Then came the bail-outs of Fannie Mae, Freddie Mac and AIG. Meanwhile, HBOS was forced to the mercy of Lloyds TSB and Lehman Brothers went bust. The list goes on.

Inflation became a worry when oil prices shot up, but this soon dissipated and inflation eased off. This, in turn, gave the Bank of England room to cut interest rates, but by then the UK and United States had moved into recession. However, we need to look forward to what might happen, not focus on what has already happened. Any downturn or crisis is usually followed by a recovery. Most investors will only see that we're past the worst when we're halfway through the recovery.

The UK and US economies will almost certainly move into a deep recession in 2009, but I expect the stock markets to start recovering before the economy bottoms. This lays the foundations for some interesting investment opportunities.

With interest rates at 2 per cent in the UK and virtually zero in the US, income-generating assets have become extremely attractive. Equity income may come back into favour next year. Share valuations are at 30-year lows, and there are more than 150 stocks in the UK with dividend yields at least 2 per cent higher than 20-year gilts. Admittedly some companies will struggle to hold their dividends, but compared to the last market bottom in 2003, the cash flow underpinning dividends is stronger.

Low interest-rates and low yields on government bonds also make corporate bonds attractive. Investment-grade bonds in particular are, on average, yielding 8 per cent and are also pricing in a 35 per cent default rate over the next five years. Default rates have never approached that level; since 1970, they have never risen above 2.4 per cent. From current levels, there are prospects for an attractive level of income and capital growth.

Another area to be bullish about is gold. Its price has also been volatile, peaking over $1,000 an ounce earlier this year and falling to $714 in October. However, we are seeing a reversal of this trend, supported by simple demand and supply dynamics. The World Gold Council reports that the demand for gold reached a record high in the third quarter of 2008 and supply was down by 9.7 per cent from the previous year.

An interesting way to access gold is through the shares of gold-mining companies. It is higher risk, but gold-mining shares have lagged the gold price this year and are on a significant discount. We would expect a bounce from gold shares if they return to their historic average price compared to the gold price.

We cannot ignore the fact that the global economy will remain in dire straits as deleveraging continues and more banks recapitalise. Property is one area to avoid while this is still happening. Other areas, such as emerging markets and Asia, still show promise on a long-term view. While they are likely to remain volatile in 2009, a great way to capture the growth opportunities would be through regular monthly contributions.

While the global economies will continue to suffer, there are rays of sunshine in some areas of the market. In the words of Warren Buffett: "The market will move higher, perhaps substantially so, well before either sentiment or the economy turns up. So if you wait for the robins, spring will be over." Let's see where markets will be this time next year.

Meera Patel is a senior analyst at Hargreaves Lansdown, the asset manager, financial adviser and stockbroker. For more information about the funds included in this column, visit

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