Each week, a professional investor tells MoneyWeek where he’d put his money now. This week: Matt Strachan, investment manager, North America, Alliance Trust.
The debt crisis buffeting the ‘Club Med’ countries has focused attention on who owes what and their ability to meet those obligations. The retreat from risk has benefited US Treasuries. The yield on the ten-year bond has fallen from 4% to just over 3% in short order.
America has yet to have its feet held to the fire by the bond market, but the current fiscal position doesn’t look a lot better than in many European countries. Growth has recovered better than in Europe as a whole, but it’s come at the price of a $1.4trn deficit (12% of GDP), with only a small forecast deficit reduction this year. Indeed, it has prompted the Government Accountability Office to warn that ‘the US is on a fiscally unsustainable path’. The key question that sovereign-debt worries raise for equities is what this means for economic growth.
The answer is almost certain to be disappointing. US credit creation since 1982 has delivered long periods of robust economic growth and asset appreciation. But in the process, government, company and household debt has nearly tripled. Deleveraging is the new paradigm. This puts a cap on the market’s capacity to grow earnings. However, it doesn’t mean prospects are poor for all US equities.
First, corporate America has already largely got its balance sheet in shape. Second, although cyclical firms will find it more difficult to cover their cost of capital in an environment of disappointing and short recoveries, firms with a consistently high return on capital will do well. The ‘new black’ of investment is to avoid debt, buy quality. And America has plenty such stocks.
One of the great strengths of the States is the dynamism of business and its drive to bring us the next great product or service. It’s no accident that tech firms thrive in America. If you’re concerned about the macro-economic mix, this is an industry that has lived with deflation for most of its life. We all know about the success of Google and rebirth of Apple, but one tech stock we like now is Polycom (Nasdaq: PLCM). They are leaders in video-conferencing systems, which help to cut travel budgets and time. After a period of research and development, accelerating sales should generate dramatic earnings growth.
Discounted branded goods retailer Ross Stores (Nasdaq: ROST) should also do well. American consumers are suffering indigestion after a binge fed by home-equity withdrawals (taking out loans against their homes, which are no longer rising in price). But we are talking about Americans: their desire to shop should not be underestimated. A highly efficient retailer, Ross is still only in 27 states and is well positioned to benefit from a tough consumer environment.
One country that has been praised for avoiding others’ economic and banking pitfalls is Canada. As well as having the world’s soundest banking system, Canada slashed public spending by 20% between 1992 and 1997. It now has the strongest economy in the G7 and, in contrast to the US, has seen a full recovery in small business confidence.
One firm we expect to do well in this environment is Yellow Pages Income Fund (CN: YLO.UN), Canada’s near-monopoly provider of the Yellow Pages directory. It’s the dominant form of advertising for small businesses and is being brought onto the internet, allowing increased service offerings.