By Jason Fittler
There is a lot of information out there about why the market has fallen and who is responsiable. Below I have tried to simplify what happened with the help of a chart from Doug Mc Taggart chief economist for QIC. Let’s start with that.
The below chart comes from a presentation by Doug Mc Taggart. Take look and read below.
1. Cheap loans were given to people who could not afford or had poor credit history. Why? Greed. Banks could write the loans and then on sell them. This way they were off balance sheet and no longer their problem. Obviously this was profitable as such bank wrote worse and worse loans.
2. Investment bankers bought these junk bonds, took them along to the rating agencies to have the rated. The issue here is that investment banks should have avoided these junk bonds all together, but there was money to be made and they too would pass the risk on.
3. The next step is having then debts rated. Here is where this sub prime issue should have stopped. The rating agencies should have rated the junk bonds as such the intuitions would never have taken on the debt. So why were they A rated? In short, money. The rating agencies business model is based on repeat business. So if they did not give a good rating, the Investment Banks would take their business elsewhere. So the ones who should protect the end consumer are no better then the Investment Banks.
4. Now the problem compounds, with the intuition investors, they take these now A rated junk bonds and borrow against them in order to squeeze out some more money. Again another moral hazard, the intuitions should have never touched these but there was money to be made and besides everyone else was doing it.
5. The final step was then to sell these A rated junk to the poor retail investors. So why did your adviser not pick up the above mistakes. Simple, they did not have the information. By the time the end-product came to the market, such advisors simply relied on the rating of the rating agencies.
Next, times turned a little tough and the loans fell over. The whole house of cards fell down and brought with it a number of investment banks, banks, and mortgage lenders. The result created two new words in the public vocabulary… sub prime and credit crises.
Should this have ever happened? No.
Has it happened before? Yes.
Will it happen again? Yes.
What we'd like to happen.
I think I speak for everyone… we would all like to see the government reach into its magic bag and pull out an economic policy that will fix all of these problems. We would all like to see the market recover, so we can revisit the prosperous times between 2003 and 2007.
The fact is… there will not be a quick fix.
So now is the time for you to... seek the right advice and re-visit your investment strategy.
However, the inexperienced and highly geared investors will…
• Wake up every day and wish the nightmare over.
• Find it difficult to cope with the losses incurred.
• Feel sick every time they hear they market has hit new lows.
• Most likely, exit the market, buy property, and kid themselves that property values will not fall.
What's going to happen.
The market will shake out and remove the highly geared, the inexperienced and the wrongly advised. With these investors gone, the market will start to recover.
We can expect to see further down side in the market as the last of the rubbish is purged. Daniel Goulding is expecting this to happen in the next couple of weeks, during which we could see the market fall as low as 3400. This should be followed buy a quick rally. This will spell the start of the recovery. I expect the market to recover somewhere between 4500 and 5000 and establish a long-term trading range at this level. But it could take 12 months to reach these levels.
But wait there is more! There are some major economic issues starting to surface which indicate that it will be a slow recovery.
The below is not a negative view. It is a factual view.
Once you have this information... you can make informed decisions.
1. Consumer confidence is at an all time low, as such you can expect spending to slow.
2. Unemployment has been at historic lows, it is now starting to rise. I see higher unemployment in the future.
3. Interest rates are coming down but credit is tighter. This means only those who can afford it will get finance. Given issue 1 and 2 there will be less people able to borrow.
4. China’s GDP is down and the world as a whole is starting to slow. This affects our major export, resources. As such the likes of BHP and RIO will cut back employees. Those of you in North Queensland will understand how fly-in fly-out miners have been a major factor in the growth of our area.
5. Inflation is on the way up, cost of living will increase, carbon trading will add to this. Belts will tighten. Like it or not, this will affect the discretionary spending companies such as Harvey Norman.
6. Investments are frozen, funds are flowing out of the market and into cash, term deposits etc. This is great for the banks but not for the recovery of the markets. I think the government put more thought to News Paper Headlines then Economic effect when they passed this one. One major side effect is a number of conservative fixed interest managed funds are now frozen to redemptions. This will have a major impact to self-funded retirees.
7. Property sector is now starting to be effected with the property trusts falling on Friday with further falls to come. Residential property will follow, guaranteed. In Townsville I would not like to be in the off the plan units market.
So what to do?
My choice is to structure my investments so I can continue to make money in a prolonged sideway market. I expect to continue to make 10% per annum over the coming years in a sideways market.
Find out next week.