Monthly Commentaries

Putting it all in perspective. – June, 2010

In a nutshell, although markets remain extremely volatile and nervous, we are not expecting a "double dip" down to the levels of February/March 2009. While there is little urgency to invest in markets beset by economic and fiscal uncertainty, attractive values will likely appear over the next several months. Carefully selected global equities should outperform based on slow growth in the developed world and continuing demand emanating from the developing countries. Over the past two months European bank capital has been eroded by the write-down of their holdings of sovereign debt, transforming the sovereign debt crisis into a European banking crisis. Adding fuel to the fire is the fact that on average, European banks are more levered than their North American counterparts. While North American banks' loan exposure to Greece, Italy, Portugal and Spain is small - their loan exposure to European banks is much larger, forcing them to restrict credit by being more selective about counterparty risk. At the same time, European banks are calling in investment loans to shore up their own balance sheets, all creating the potential for another credit freeze that could stall the fragile North American and global economic recovery.

This forced unwinding of levered investments in equities, commodities and currencies has been accompanied by a surge in volatility and a rush to liquidity - government bonds - and the safety of the US dollar. As the confusing G-20 communique evidenced, governments are now trying to balance austerity with stimulus, creating even more uncertainty. The singular focus on cutting deficits and debt to reduce their Deficit/GDP and Debt/GDP ratios and to restore confidence and credit ratings is misplaced. We should remember that spending cuts and higher taxes can stop the bleeding, but they don't restore prosperity. It is equally, if not more important, to grow GDP to reinstate those ratios to acceptable levels. Expect to see further stimulus targeted toward long-term infrastructure investments that create employment rather than toward programs promoting temporary tax breaks. Likewise, spending cuts should emphasize reductions in waste over essential entitlements. Central banks will keep interest rates low and credit available recognizing that there is no inflationary threat from an expanding money supply so long as the velocity of money remains suppressed.

The sovereign debt crisis has served to escalate uncertainty and volatility. It has de-stabilized but not derailed the nascent recovery. Liquidity, productive capacity, technology and entrepreneurial talent abound. Confidence can be restored with thoughtful and consistent policies - devoid of political posturing - covering economic expansion, budget restraint and financial regulatory reform. Throw in a good dose of patience. After all, we're in this for the long haul. Peter Sacks Founding Partner