Thud Heard Round The World

In revisiting recent lows in equities and continued high rate spreads in fixed income, markets are at critical levels even as despair rises. With enhanced volatility likely into mid 2009, we nevertheless expect broad trading ranges to prevail with as benchmark around 750-900 for the S&P 500, followed from late 2009by a new earnings and market cycle globally. Potentially similar to the shot in the 1914 Balkans that was precursor to eventual sweeping global change, since 2007 in a thud still being heard around the world, the current credit crisis suggests still evolving forced change in finance. For investors, liquidation of weaker financials is likely to continue globally and the advantage lies with flexibility. Second, supplying liquidity to reduce systemic risk is likely to remain a primary priority for governments and central banks alike, likely to be underscored in the upcoming Monetary Policy report to U.S. Congress.

We expect increased focus by corporations and appreciation by investors of our long favored positioning in favor of quality. In financial scandal, it is worth reflecting upon the utilities and the telecommunication service companies immediately before and after the 2000 market peak. Both industries were globally of mixed private and public ownership. Scandals such as Enron and Global Crossing did erupt, increased regulation developed and severe restructuring followed. However, well positioned utility and telecomm services entities subsequently in market recovery were amongst strong performers. We look at the strong financials as likely market leaders in a similar context. Generally, the late February earnings cuts onwards likely lay the groundwork, alongside corporate focus on efficiency, for classical positive surprise later for a new cycle both of earnings and markets. A risk is that contrary to government and central bank officials and notwithstanding leadership action by compatriots during past decades, corporate chieftains seem strangely reticent which requires to change. We believe bifurcation in favor of quality has further to go. We favor such companies in the financials, in information technology, in industrials and increasingly in energy as exercising sector market leadership.

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