The Economy Will Continue to Face Serious Challenges in the Years Ahead
- Over the last year, the debt binge fueled a lot of spending. Reducing debt necessitates less spending, which suggests a sluggish economy in
- Stimulus spending revived the economy but
added to the ballooning public debt problem that will be difficult to fix
without causing more damage.
- In addition to stimulus spending, the economy
has been helped by inventory rebuilding. Neither can be sustained.
- Jobs are key, and despite slow improvement
the job market remains poor.
- There are more problems, including:
amounts of commercial real estate debt coming due.
strains in the housing market.
high inflation down the road from deficit spending.
state and local government finances.
There are Several
Positives that Could Contribute to a Better Outcome
Stocks Are Not Priced
to Deliver Strong Returns
- Continued strength from emerging
economies would provide an important source of demand.
- Domestically, we could see
stimulus spending, low rates, and inventory rebuilding create a strong business cycle.
- This may involve businesses
with strong balance sheets adding jobs, and consumer and business confidence
building and feeding on itself.
- After their powerful recent run, strong
multi-year returns from stocks would require a level of earnings growth we
- We believe mid-single-digit returns or worse
are more likely for stocks than higher returns over the next five year.
- Our outlook for developed market foreign
equities is similar.
- We believe risks are relatively high, but if
rates stay low and there is no negative catalyst, we could see low double-digit
returns in 2010.
The Government is
Walking a Tightrope Between Stimulus and Deficits
- The picture we paint is not the most
uplifting, but we must make decisions based on what our analysis tells us.
- We could be wrong in the short term and
investors need to recognize that it is the willingness to be wrong in the short
term that enables us to outperform over the more important longer spans.
- There are a number of reasons to be
optimistic about the longer-term returns we can deliver even in a challenged
- Doing so will require us to be patient and highly selective in the decisions we
Views on U.S.
As stimulus spending winds down it's possible
the economy could tip back into recession.
- More spending and less tax revenue is
creating a spike in public debt.
- Demand for Treasuries had been strong, but is
showing signs of weakening, which would raise the cost of funding the debt.
- High levels of borrowing could put upward
pressure on rates in the next few years.
- Longer-term, the deficit problem is about
entitlement spending on behalf of retiring baby boomers which will massively
increase the debt unless taxes are increased and benefit spending is cut.
- Our base-case scenario is slow economic
recovery accompanied by private-sector (primarily household) deleveraging.
- At current valuations, equities do not offer
attractive potential returns in our base case or in other more pessimistic
Views on Investment