Goodbye 2008; now brace yourself for 2009

While almost all investors will be happy to see the end of 2008, consensus continues to build that the first half of 2009 won’t be much better.

The recession that’s already taken hold of the U.S. economy will reach into Canada before a modest recovery begins in the second half of the new year, according to projections from both BMO Financial Group and Richardson Financial Partners.

Douglas Porter, deputy chief economist, BMO Nesbitt Burns, predicts the global economy as a whole will turn in its weakest year since the early 1980s, growing a mere 1%. But he expects stimulus packages in both Canada and the U.S. to jolt North America back into modest growth by the second half of ’09.

Supporting the fiscal stimulus will be an extended period of extremely low interest rates, as the U.S. Federal Reserve holds its key rate near zero, and the Bank of Canada again cuts its overnight rate. With little help from the BoC, the Canadian dollar will likely spend the first half of 2009 below 80 cents U.S., but could rebound to as high as 85 cents later in the year. Continued softness in the energy sector will keep the dollar on the low side, and Porter expects the price of oil to average US$45/barrel in 2009.

Not everyone in the extended BMO family, however, is down on the energy sector. Jack Ablin, chief investment officer, Harris Private Bank, suggests energy, healthcare, consumer staples, utilities and telecoms are the most attractive sectors on the equity markets.

Far less attractive are materials and industrial stocks, Ablin says. He warns investors to focus their attention on a company’s price-to-sales ratio, rather than price-to-earnings. In the meantime, he recommends investors park their cash in high-yield bonds as they wait for an entry point to the equity market.

Bart Melek, global commodity strategist, BMO Capital Markets, calls for gold to be one of the few materials to remain healthy, but even it is unlikely to stage a rally in the near-term, as disinflationary pressures reduce its appeal as a hedge against inflation. But a forecast from Richardson Partners Financial recommends investors maintain a position in precious metals all the same.

“We continue to recommend that investors maintain exposure to the gold sector as a hedge against the risk of both deflation and inflation,” reads a report penned by Andy MacLean, the firm’s director of private client investing, and Clancy T. Ethans, senior vice-president and chief investment officer. “Should deflation begin to set in, only gold and cash will provide a measure of safety. And if the world monetary authorities leave interest rates too low for too long, as they’ve often done in the past, then runaway inflation could return.”

The pair say deflation is unlikely, given the massive amounts of stimulus expected to be pumped into economies around the world, and that inflationary concerns may well resurface in the second half of the year.

The Richardson forecast does agree with many others that say the American recession should end in the second half of ’09, and that the current downturn, while bad, is not a reincarnation of the Great Depression.

MacLean and Ethans point out that equity markets, forward-looking creatures that they are, should rally in advance of the economic uptick, but they still advise investors to brace for continued volatility.

“With the stage set for a slow recovery in the global economy in the second half of 2009, we are becoming increasingly positive on the outlook for equities over both the short and longer term,” the pair writes. On the short-term side, they believe a bear market rally is becoming increasingly likely, while in the longer term, many quality stocks have been beaten down further than they deserve, creating opportunities for value investors.

“While not all the signals are clearly in place to start buying stocks aggressively, the landscape has shifted enough to warrant an accumulation of select risky assets,” they write. “For equities, it’s all about the earnings and the value placed on the earnings.”

For investors looking to park capital, the two recommend corporate bonds, saying they’ve become quite cheap as investors flock to lower risk government issues.

“Investment grade corporate bonds are no longer selling off sharply on bad news and even high-yield bonds are beginning to form a trading base,” they write. “At major turning points, credit tends to move with equities. The fact that we’re beginning to see an improvement in the recent performance of corporate bonds bodes well for the equity market.”

(12/31/08)