Tough New World

Welcome to the tough new world is our takeaway from 2010 to date. Before the unfolding of the credit crunch from 2007 and even subsequently during the unleashing of advanced country government largesse, capital markets have been uni-dimensional. As global capital markets progress, we expect that a more classical and multidimensional investment world awaits. Relative predictability of easy money policy did give rise over the last decade and a half to quantitative tilts driven by long-short strategies and ostensibly creating alpha (with implications of a highly theoretical normal distribution world) that in their essence depend on stability. By contrast now, a more classical quantitative analysis backdrop could await which is commonly called Graham and Dodd in equities and credit assessment in fixed income even if its last form had as its background not just the Great Depression in the United States but also the Weimar Republic in Germany and colonialism in Asia—all conditions different from today. We would not quarantine the corrective tilt of 2010 so far. We believe that transparency in exit strategies from easy credit and that deficit management with large debt to GDP ratios (88% in Europe, 92% in the United States and 197% in Japan as reported in Der Spiegel February 5, 2010) transcend such quarantining as a Greece/Euro issue (or the derogatory broader acronym currently in use).

It may be a symptom that forces broader change much as Thailand did over a decade ago, with the complacent including Japan seen in retrospect to have paid the highest price. Neither should the low quality tilt of equities in 2009 be seen as sustained, absent easy money. Only now in early 2010 has correction territory of a 10% pullback from peak for world equities and close to it at 8% for U.S. markets been broached. To us, it indicates a change in behavior potentially more towards quality of delivery and towards greater appreciation essential for the health of equity recovery is a strong financial sector with greater capital and less aid from government. We see quality of delivery as key and just as likely to be found in the restructurings of energy, industrials, information technology and healthcare for instance but unlike much current commentary, not necessarily sole purvey of staples in aggregate.

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