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Politics : Idea Of The Day -- Ignore unavailable to you. Want to Upgrade?

To: IQBAL LATIF who wrote (29613)	11/8/1999 2:07:00 PM
From: IQBAL LATIF	Respond to of 50167

Valuing the US market By Philip Coggan Warren Buffett's brilliant article in the latest issue of Fortune magazine forces me to return to that thorny subject, the valuation of the US stock market. Buffett is very much a stock-picker and is not renowned for his pronouncements on the overall level of the market. And I should make it clear that he is NOT predicting a crash as such, merely an extended period of subdued returns for US investors. His reasoning is not revolutionary but his reputation as the world's greatest investor gives his views authority. Buffett's case is that the bull market of the last 17 years has been fuelled by a one-off drop in bond yields, a pick-up in corporate profits from cyclical lows and the herd mentality of investors on top. But he thinks it unlikely in the next 10-20 years that bond yields will fall much further or that corporate profits will grow as a percentage of GDP. Chances are therefore that returns will equal GDP growth plus dividends minus trading costs, or around 6 per cent. For those who think they can beat the market, Buffett also alludes to the difficulty of picking winners in growing industries, a subject I'll return to in a later column. And no doubt there will be bulls who believe Buffett is pessimistic because technology can transform the corporate profit share of GDP. But what are the implications if he's right? It certainly should give pause to those of us brought up in an era when it was assumed, without question, that the vast majority of a portfolio should be invested in equities. Six per cent from shares is not a terribly exciting prospect when one considers that one can get that, risk-free, on US Treasury bonds. In the UK, cash now offers investors 5.5 per cent and office property yields around 7 per cent, with the prospect of growth. This problem of lower nominal returns is one that has already been faced by many UK investors. Recent retirees who have been forced to convert their personal pension into an annuity are getting incomes far smaller than those who retired a decade ago, thanks to lower gilt yields. And the cautious views of actuaries has prompted all the recent stories about endowment mortgages failing to repay mortgages. Of course, 6 per cent is a perfectly decent return in real terms, if you consider that central banks are aiming to keep inflation at around 2 per cent. But what will be the reaction of US investors, who have grown used to nominal returns of 19 per cent over the last 17 years and real returns in double digits? Assuming that they have some figure in mind for their ideal retirement fund, the logical reaction of US investors will be to save more in order to compensate for the effect of lower returns. And that will mean slower economic growth, possibly even recession.