IOM Investment Talk on Recovery and Markets

Licensed by the Isle of Man Financial Supervision Commission
Stockbrokers & Investment Managers
Junior Chamber of Commerce
Hilton Hotel
Tuesday 9th
November 2010

Today’s Speakers
Stuart Cowan Chartered FCSI
Investment Director
“Welcome & Introduction”
Peter Robertson BA (Hons)
Chartered FCSI
Senior Investment Manager
“The Illusion of Recovery”

Ramsey Crookall & Co Ltd
Stockbrokers
&
Investment Managers

Ramsey Crookall & Co was established in 1946
and is the Isle of Man’s longest established
independent firm of stockbrokers and investment
managers.

Ramsey Crookall & Co is a full service stockbroker
Stockbroking
execution only and advisory service
Gilts, bonds, stocks, equities, collective investments
Investment Management
Discretionary and Advisory fee based services
Nominee and Global Custody
Money Management

Dealing Service
A highly efficient Dealing Service forms the cornerstone of operations
and provides all clients with fast, straightforward access to all major markets.
Dealing Room – direct line access to an experienced and skilled dealing
team, equipped with the latest information and dealing technology
Best Execution - a straightforward and highly efficient dealing service

Investment Management Services
Discretionary Management
Ramsey Crookall appointed to manage the client’s portfolio
Mandate to reflect the client’s investment objectives
Advisory Management
For those clients who wish to take an active role in the management
of their investment portfolio

Disclaimer
Where Ramsey Crookall has expressed views and opinions, these may change. Where
markets and securities are mentioned in this document they do not necessarily represent a
specific portfolio holding and do not constitute a recommendation to purchase or sell. This
does not constitute an offer or solicitation by anyone in any jurisdiction in which such an offer
is not authorised or to any person to whom it is unlawful to make such an offer or solicitation.
The value of investments and any income will fluctuate (this may partly be the result of
exchange rate fluctuations) and investors may not get back the full amount invested.
Ramsey Crookall and Co Limited is licensed by the Isle of Man Financial Supervision
Commission.

“The illusion
of
recovery”

“are we there yet..........”

The average length of time a country
spends in a deflationary deleveraging
phase is SEVEN years.........................
(McKinsey)

Today’s Presentation
• Introduction
• Remembering the credit crisis
• How the authorities responded
• Three years on – where we are now
• Quantitative easing
• What QE did to economic growth
• The economic outlook
• The market outlook
• Conclusion

Remembering the Credit Crisis – ‘its all about debt’
•Origins in USA - post dot com, Sept 11 2001. ‘Greenspan Put’
•Post Sept 11 recovery driven by cheap debt, easy credit, consumption
•US Mortgage Market - securitised
•New products
•Growth in sub-prime
•Single Euro interest rate led to disproportionate growth in Eurozone
•Recovery in Emerging Markets post 1998 led to increased trade

US

2007 – bubble bursts
•Credit bubble popped in 2007 – Sub Prime Crisis in US
•Mortgage backed securities = global contagion
•Banks refused to lend
•Stock markets collapsed, banks failed eg Lehman, Bear Stearns

How the Authorities responded
• Interest rates cut to record low levels
• Temporary fiscal stimulus – eg VAT cut to 15% in UK
• Central bank intervention – ‘Quantitative easing’ & supporting ‘toxic assets’
• Government spending to stimulate the economy
• Bank bail outs by Governments
• Changes in accounting regulations, eg FASB ‘mark to market’

Three years on – where are we now?
29.10.2007 29.10.2010 Change %
3 month LIBOR 6.26% 0.695% -5.565
UK Base rate 5.75% 0.5% -5.25
US Fed Funds Tgt 4.5% 0.25% -4.25
10 year Gilt Yield 4.84% 3.01 -1.83
FTSE 100 Index 6,706 5,675 -15.3%
S&P 500 ($) 1,540.9 1,183.26 -23%
Gold ($) 791.8 1,359.4 +71%
Bond yields are suggesting low growth. Equities are discounting a ‘V’ shaped recovery.
Gold is a hedge against inflation!! How can this be?

‘Quantitative Easing’
•Central bank intervention – aim to stimulate economic growth
•Create money, lend to banks, invest in government and corporate bonds
•QE since 2009:
• US Federal Reserve: $1.7trn PLUS $600bn to Jun 2011
• UK Bank of England: £200bn
• ECB: €750bn emergency measure (loan guarantees)
•The impact so far?
• Original aims?
• On growth, consumer spending?
• On assets and economic data?
• On inflation?

What QE did to Economic Growth
US GDP
•Has recovered from 2009 low
•Q3 2010: +2%
•QE: $1.2 - $1.5trn
•But:
• Consumer spending 70% GDP
• Unemployment high, housing weak
• Business investment constrained by
tight credit, and ‘offshoring’
• Gov’t stimulus temporary impact
• Total consumer debt $11.7trn

United Kingdom GDP
•Q3 GDP: 0.8%
•QE spend so far: £200bn
•Construction has been strong
•Weak sterling helping exporters
•But:
• Austerity measures from 2011
• Credit remains tight
• Total personal debt £1.45trn

EuroZone GDP
•Huge divergences between countries
•The €750bn ‘comfort blanket’
•Penal austerity measures across
Eurozone
•Greece problems have not gone away
•Strong Euro will hurt exporters

The economic outlook
•Interest Rates
•Components of GDP
•Credit/debt markets
•Inflation
•Potential headwinds

The economic outlook - Interest Rates
•US: 0.25%
UK: 0.5% interest rates at historically low levels
Eurozone: 1%
•Further QE suggests they will remain at current levels
•Expect them to rise sharply once the recovery gains traction
•Must keep an eye on inflation
•Market rates (bond yields) will provide guidance

The economic outlook – credit/debt markets
•Governments are carrying massive debts
•Expect the US Government to continue spending, UK and Eurozone embracing austerity
•Who will buy the US debt?
- Largest holders of US Treasuries: China $868.4bn
(Nov 2010) US Federal Reserve $842.0bn
Japan $836.6bn
•Banks remain reluctant to lend (Basel III, balance sheet rebuilding)
•UK mortgage lending sluggish – lending multiples much stricter than pre-credit crisis

The economic outlook - Inflation
•UK inflation remains ABOVE Bank of England’s target
•Possible food price inflation from 2011
•Oil price just hit a 2 year high ($87)
•Little wage inflation at this time – job preservation more important
US UK Eurozone
CPI (m/m) 0.1% 0.0% 0.2%
CPI (y/y) 1.1% 3.1% 1.8%
Core CPI (y/y) 0.8% 2.7% 1.0%

The economic outlook – Potential Headwinds
•Sovereign Debt crisis – GREECE, IRELAND!
•Collapsing US dollar – potential inflationary consequences
•30 year US Treasury bond – watch the yield
•Further issues in US securitized mortgages market – watch BAC
•Austerity measures, higher taxes, eg UK VAT 20% from Jan 2011
•Is the recovery an illusion? Has the credit bubble only part deflated?

Consensus Forecasts
2010 GDP 2010 CPI 2011 GDP 2011 CPI
USA 2.7 1.6 2.4 1.4
Japan 3.0 -0.9 1.3 -0.3
Eurozone 1.6 1.5 1.4 1.6
UK 1.5 3.1 2.1 2.6
G7 2.2 1.3 1.8 1.4
Asia ex Japan 8.5 3.9 7.4 3.7
Source: Consensus Economics: 13.09.2010

The market outlook
•Bonds
•Equities
•Commodities
•Currency

The market outlook - Bonds
•Bonds are fundamentally expensive (2yr Gilt yields 0.7%; 5yr Gilt 1.5%)
•Yields have been ‘juiced’ by QE over last 18 months
•Everything depends on outlook for inflation – yields to rise as economy recovers
•Only Central Banks (or avid deflationists) will buy bonds at these levels!
Bond Price 3rd
Apr
2009
GRY Apr
2009
Price 2nd
Nov
2010
GRY Oct
2010
Tesco 5% 24.02.2014 £100.00 5.0% £109.07 2.12%
Vodafone 4.625% 09.09.2014 £101.20 4.37% £108.05 2.40%
Nat’l Grid 6.125% 13.04.2014 £101.50 5.89% £111.52 2.58%

The market outlook - Equities
•Equities are cheap compared to bonds!
•Dividend yields are attractive (FTSE All Share 3.5%)
•Equity markets have been discounting a ‘V’ shaped economic recovery
•They remain susceptible to bad news, especially Europe & US!
•Note the rise of the Far East Asian and Emerging Markets
• Creditor nations
• Strong Exports
• Increasingly affluent and aspirational consumers

FTSE 100 Index

The market outlook: Commodities
•Commodities have benefited from
• A weak USD
• Rapid growth in the emerging markets
• Instruments such as exchange traded funds
•Gold and precious metals are now a hedge against economic mis-
management
•Global demographics support agriculture commodities

Goldman Sachs Commodities Index Reuters CRB Commodities Index

Gold

The market outlook: Currency
•USD being ‘debased’ by Federal Reserve
• To keep US exports attractive
• Eurozone issues have not gone away. Only looks expensive due to
• Fed action on US dollar
• Austerity measures in Europe
• Japan currency market intervention unlikely to succeed
• Sterling has benefited from Govt savings review – ‘tackling the
deficit’

US Dollar: Trade Weighted index
Long term trend –down!

Conclusion
•Strong recovery in asset prices since 2009
•Helped by the actions of Central Banks
•But economic recovery in the West remains fragile
•Government have taken over the role of borrower from consumers
•Double dip still possible. Consumers retrenching, unemployment remains high
•Equity markets discounting good news (susceptible to disappointments)
•It ‘feels’ illusory! Where would we be without Quantitative easing?

Questions
Stuart Cowan Chartered FCSI
Director
Peter Robertson BA (Hons) Chartered FCSI
Senior Investment Manager

IOM Investment Talk on Recovery and Markets

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