I have been thinking about an analogy for the reasons behind what we have experienced in the markets over the last 10 days.

A good one I think is to compare it to an earthquake. In 2008 a massive quake hit the western economic world causing edifices to crumble, fault lines to be exposed and people to experience profound panic and anxiety (with good reason).

After large earthquakes a series of aftershocks occur, they are big in their own right and cause huge panic, people fearing another experience the same as the first but they are in fact an effect not a cause (i.e. they are the settling down process from the first).

The key to remember in the midst of the roar is that sometimes it really is sound and fury signifying nothing (or at least not a lot), sometimes the markets become irrational, sometimes panic becomes infectious and turns emotions against logic (fear is the strongest human emotion and in large enough doses will cause people to act without conscious thought).

If you think about the causes (or so say) of the Market sell off they have in fact been known about for 3 years, nothing new has emerged to suddenly undermine the economic fabric. However, get enough people shouting fire and everyone will run for the exits – many people being hurt in the stampede to get out even though there was no fire to begin with.

Stuff to look out for

Ben Bernanke announced on Wednesday that US rates will stay low until at least mid-2013, this announcement has several implications

  • Returns on cash will remain negative in inflation adjusted terms, i.e. if you have money in a bank or Building Society it will fall in value, in real terms
  • This will encourage investment in stock markets particularly high dividend quality companies
  • It will be supportive of a housing recovery as mortgage rates will stay low and the cost of buying a house is getting ever more attractive compared to renting

It is hard to see the Bank of England raising rates either in this period, we don’t want a stronger currency as it does not help us sell goods and services abroad and the housing Market can equally use some help.

So the advice would be to look for yielding assets. As once this tremor has calmed down everyone else will and, demand drives up prices.

The second thing to look for is the way that the markets (forced or allowed depending on your level of political cynicism) have forced European politicians (George Osbourne being one) to start to talk about a European Bond Fund which was always the answer.

In a way the markets are needed to facilitate this kind of shake up and reengineering, out of the turmoil we get proper solutions and we can move forward. I know I keep banging on about this but please keep in mind:

  • Large parts of the world are doing great economically
  • Corporate profits are strong
  • Corporate balance sheets are rock solid
  • At the time of the 1987 crash (markets fell 25% in a week) the price to earnings ratio was at 40 times, today it is below 12 times i.e. the Market is valued at about 30% of what it was in 1987
  • In 1987 the Market recovered and was up in value 12 months later!

Please don’t hesitate to email me with any queries or concerns; I have not sold any investments into cash over the last two weeks. In fact I have started to buy further investments.

Far more damage is done to wealth by overpaying for assets of lower value than price. When markets go into knockdown sale price mode buy the bargains.

If a great car retails at £40,000 normally and becomes available at £25000 in a sale the logical thing is to buy it, not to sell your own car and walk away because this has to mean there is something wrong with cars now.

“Be greedy when others are fearful and fearful when others are greedy”

Warren Buffett (one of the richest men in the world all made from investing)

NOTE: This is written in a personal capacity and reflects the view of the author. It does not necessarily reflect the view of LWM Consultants. The post has been checked and approved to ensure that it is both accurate and not misleading. However, this is a blog and the reader should accept that by its very nature many of the points are subjective and opinions of the author. This is not a recommendation to buy any product or service including any share or fund mentioned. Individuals wishing to buy any product or service as a result of this blog must seek advice or carry out their own research before making any decision, the author will not be held liable for decisions made as a result of this blog (particularly where no advice has been sought). Investors should also note that past performance is not a guide to future performance and investments can fall as well as rise.