Is the United States in Recovery Mode?

Global depression continued in 2011 and the United States was unsuccessful in stimulating its economy. Despite being bombarded with constant bad news in the second half of 2011, the S&P 500 impressively ended the year flat. Large Cap stocks - defensive and dividend-paying ones specifically - proved to be the safe haven in the equity sectors. Most stock markets underperformed the S&P 500, making it a tough benchmark to beat – it was reported that approximately 75% of professional U.S. equity managers underperformed the S&P 500.

S&P 500 2011 – Performance Chart

S&P 500 2011 – Performance Chart

 

The Euro debt crisis will continue to dominate negative headlines and a European recession is anticipated, although the European leaders could still work together to prevent a steeper collapse. Being overshadowed by the Euro crisis, growth in the emerging markets is expected to slow yet should still be able to provide a positive GDP. The United States remains an undervalued market, both in terms of cheap equities and unoptimistic economic growth expectations – in 2011, earnings for S&P 500 companies grew at a double-digit rate performing better than expected by Wall Street analysts.

The U.S. economic calendar to start the year brought us some encouraging, if not exciting data. ISM manufacturing and services data indicate expansion; construction spending, though still very low, beat the consensus forecast; and gaining the most attention was the increase in nonfarm private payrolls and decrease in the unemployment rate. The U.S. unemployment rate fell to 8.5% in December, with 200,000 jobs being added into the payroll. It now appears that the European crisis is taking a back seat, and the U.S. is back in recovery mode though at a slower pace.

The U.S. GDP for 2012 is expected to grow by 2.5% on a year-on-year basis, with 2011 likely to finish at 1.7%. 2012 may not see the setbacks that were experienced in 2011; inflation expectations appear to be more firmly anchored near 2% than they were in early 2011, when speculative bidding drove up commodity prices and fueled a temporary rise in inflation that is now falling out of the 12-month inflation numbers; Japanese earthquake and the resulting supply-chain problems will not recur in 2012; and the debt-ceiling debacle from August 2011 will not be revisited until 2013.

Most analysts forecast that Europe will have a recession in 2012, but the U.S. will not be dragged into it. This scenario is a reverse of 1990 and 2001, where we saw the U.S. experiencing a recession and Europe did not. However, the U.S. may not be able to ride out a European financial meltdown in the way it did through the East Asian crisis in 1997-98. This is because the financial and economic linkages between these two economies are too immense to not influence the U.S. economy in an event of a European meltdown.

Goldman and some other economists also see housing stabilizing and expect that it may bottom in 2012. With the Fed pretty much promising rates will remain as they are at least until mid-2013, making credit conditions in the U.S. very favorable, there is increasing optimism that companies and small businesses are getting ready to hire again to expand.

 

Our Strategy Going Forward:

Lump Sum Investment

Anticipating a short–term sellout following the ongoing European bond auctions we have reduced exposure to equities. We expect to see a further increase in yields for the Spanish and Italian bonds, which will go on sale later this week, following higher borrowing costs experienced by France; Italian bonds are currently yielding 7.1%. This may also cause a downgrade by rating agencies which we believe will trigger the sellout.

Although we are currently bullish towards the U.S. economy, we believe the overshadowing crisis in the Eurozone will affect sentiments in the equity markets specifically, but we expect this to be only for the short-term, giving us an opportunity to sell high and buy back again at a lower price.

Our portfolios are currently defensively positioned – weighing more towards Mixed Asset funds (which invest in U.S. Treasury notes, blue-chip stocks and corporate bonds), Dividend funds, Physical Gold and Global Bonds. Proceeds from the recent sales will be employed towards more aggressive sectors which we believe will perform in 2012 (e.g. U.S. Equities, Mining funds, and Emerging Market Equities).

Regular Savings Plan

Capital that has been built up over the years will be employed to invest into core funds which consist of Mixed Asset funds which are less volatile, targeting a return of 8-12% p.a. net of charges, whilst ongoing contributions will be utilized to continue buying satellite funds which we believe are undervalued and have headroom for growth in the short term.

We will continue to closely monitor the satellite portion of the portfolio and make switches as and when is needed. This portion will also be reallocated back into the core funds once a considerable level has been achieved. Currently this portion of the portfolio consists of Commodities, Latin American Equity, and Blue-chip Equity funds.

 

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