Investors face a dangerous year

THE INVESTMENT COLUMN
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One of the highlights of the otherwise dull post-Christmas period in early January is the annual visit to London of Bob Farrell, the senior investment advisor to Merrill Lynch in New York. One of the leading market strategists in the US, he always attracts a big crowd of fund managers eager to hear his views on what the next 12 months hold. Having largely missed out on the Dow's remarkable surge last year, which caught almost everyone on the hop, it was no surprise to see so many at yesterday's talk.

He didn't disappoint. If he is right about 1996, we are in for a volatile year on Wall Street which means London will undoubtedly be buffetted in the side winds.

While the past is rarely a good guide to the future in investment, statistic after statistic suggests worryingly that 1996 could be the most dangerous year for stock markets since 1929.

Some of the pointers towards a grossly overvalued stockmarket include the following:

oThe period from October 1990 (when the stockmarket had just fallen 22 per cent in the run up to the Gulf War) is the longest period this century without a 12 per cent or greater correction.The Dow's gain in 1995 has been the biggest in any year since 1975.

oInitial public offerings and mutual fund sales are at record highs, as are volumes on the stockmarket. The yield on US stocks, at just 2.29 per cent, is lower than at any time since 1929, suggesting that investors are ignoring the important fact that half the average annual return on shares comes from dividend payouts.

oAmerican households have a historically high percentage of their assets tied up in equity investments. The market value of all equity and fixed income securities is a higher proportion of total corporate assets than at any time since the war and the stockmarket as a proportion of nominal GDP is higher than at any time since, you guessed it, 1929.

These ought to be alarming statistics and against that weight of information the counter arguments seem flimsy: they state that demographic changes mean that the US is transforming itself from a nation of consumers to investors which will shift the levels at which alarm bells start ringing; also, as foreign investors largely missed out on last year's party, they will move in this year, extending the festivities; finally, bull markets always run longer than logic suggests they should as the fear of missing out (greed) overrides the fear of overpaying (fear).

The bullish outlook is confirmed by a number of cyclical pointers, which while they seem unscientific do appear to be at least consistent. One of these shows that while the 5th year in a decade (1945, 1995 etc) has been positive in every decade for a century, the 6th year has also had a good run (8 up, 3 down). Be warned, though, the 7th year has a dreadful record, especially when, as in the 1990s, it is the year after a presidential election.That is a year off, however; in the meantime volumes, which tend to peak 5 months before the market follows suit, are rising, which suggests the market still has momentum. New issue activity is also encouragingly buoyant.

So much for the market. As Mr Farrell is the first to admit, however, getting market timing right is far less effective in investment terms than picking the right stocks. He tells the story of two investors, one of whom jumped in and out of the market at all of its peaks and troughs between 1940 and 1973 while the other stayed fully invested, but always in the best performing sector.

The first investor turned $1,000 into a useful $86,000, not a bad return. The second, however, had his feat been achievable, would have turned his $1,000 into a cool $4.3bn.

Of course neither route is a realistic possibility, but the point is well made. In a volatile market, the need for selectivity is greater than ever, so what are Mr Farrell's tips for the year?

Japan, he thinks, will have a good couple of years, but be careful this is a cyclical bounce and does not reflect underlying growth. Dollar assets will do well as the currency moves in the right direction. Small cap stocks will outperform their larger peers, gold will break out of its current trading range and selected emerging markets will outperform the established centres.

Longer term, the themes for the 1990s which will drive stocks this year and for the rest of the decade could be as follows: expect producer assets to be buoyant as capital spending rises in a major productivity push; the communications revolution will continue apace; and demographic changes mean massive opportunities for healthcare stocks in the broadest sense. Tread carefully this year, however - there have never been two successive years without at least a 5 per cent correction. Whatever it is, 1996 is unlikely to be dull for investors.

Bespak still has its problems

Bespak ought to be a go-go stock. The company leads the world in the manufacture of asthma inhaler valves, which were at the centre of Rhone-Poulenc Rorer's recent pounds 1.8bn bid for Fisons, and sell into the respiratory drugs sector, the fastest-growing part of the pharmaceuticals market. Instead, the shares languish at less than half the 1993 peak of 707p, even after yesterday's 10p rise to 325p.

The old management which led Bespak astray has gone, but despite yesterday's announcement of a 15 per cent rise in interim profits to pounds 3.51m, it is clear that only some of the company's problems have gone with them.

After more than a year of discussion, attempts are still being made to modify the onerous royalties payable on a new valve to ML Laboratories' subsidiary Innovata Biomed. Last year's massive pounds 18.6m write off should ensure all news on this front is good in future.

There was also a welcome return to profits of pounds 500,000 in the two US Tenax subsidiaries, where restructuring deepened trading losses to pounds 1.3m in the second half of last year. The 2 per cent fall in sales from Tenax Danbury to US Surgical, the main customer for its surgical equipment components, was the best performance in three years.

Even so, Bespak remains heavily exposed to the vagaries of the large pharmaceuticals. A recovery from last year's destocking by Glaxo Wellcome and Fisons, which together account for more than a third of group sales, was the main propellant behind a 32 per cent rise in UK profits to pounds 3m.

Glaxo's recently launched dry powder Accuhaler, along with new products from Fisons, should keep sales moving ahead in the short run, while there is potential to apply inhaler technology to other drugs further out. But Bespak's management, further strengthened yesterday, will have to work hard to diversify the customer base to improve the quality of earnings. On a prospective p/e of 15, assuming profits of pounds 8.3m this year, the shares look fairly rated.

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