The European Central Bank seems to be showing the UK authorities how to support banks successfully in its propping up of Spanish banks with significant mortgage exposure.

The Spanish property market has been in a state of crisis for a while now after a decade long building boom ground to a halt.  This meant that many of the country’s banks were already in a parlous state even before last summer heralded the arrival of the credit crunch.  When the interbank lending system ceased to function, they found themselves in a similar position to Northern Rock.  The ECB, however, has worked quietly to extend credit on favourable terms even when the collateral provided was slightly dubious.

This meant that Spain avoided the spectacle of officialdom rushing around and bumping into each other that we had in the UK.  They also did not have to watch a run on a bank live on TV.  Still, let us hope that the great and good have learned a lesson and we never face this sort of national embarrassment again.

The management of SocGen, the French bank, who are now disgraced, may be thankful for the Protectionism exhibited by their government; shareholders, however, may have less to celebrate.  SocGen seemingly ignored warnings that one of their traders had gone rogue and it is unlikely that senior managers will avoid walking the plank and ordinarily to would look ripe for takeover.  The French, though, are not too keen on seeing foreign ownership of high profile companies and it may be that once again the government will force a home grown deal through, even at the expense of shareholders.  It can come as a surprise to some investors outside mainland Europe that shareholders’ interests are not seen as paramount in some major Continental markets but national pride (usually paraded as national interest) can take precedence.

Because of this, any interest by a foreign bank, Barclays is one that has been mentioned, may be thwarted.  Officially, the EU takes a dim view of this kind of monkey business and it probably damages the economy in the long run but it seems hard to change long entrenched habits.

For the last ten years, residential property in the UK and much of the rest of the World has been a one way bet; the ones who missed out were those who did not borrow as much as they possible could.  Those who felt uncomfortable with being in debt or who kept betting on a drop in price missed out.  The question for many is whether this is likely to be the story of the next ten years.

If the doomsayers are right and we find ourselves replaying the ‘crash’ of the early nineties, what will this mean to the average home owner?  Officially, prices fell then by about ten per cent, stalled for a couple of years and rocketed off in about 1996.  Of course, the pain of a fall in values will not be evenly distributed.  Those who have to sell will find themselves disadvantaged, although we are much more accustomed to the idea of letting our property now than we were back then.

For anyone who bought, say, a couple of years ago or who does not need or want to sell, will they really notice?  So long as they can afford their mortgage and, with rates looking more likely to fall than rise, affordability is hardly an issue compared with ten years ago, owners can sit tight and let things blow over.  The real losers back in the early nineties were those who sold even though they expected to be homeowners in future.  They found themselves buying into a rising market having lost ground.

Homes also provide shelter, it is not as if we can do without one.  People will not all sell out to hold cash and this provides some underpinning for the market.  As with most assets, it is not market timing but time in the market that delivers the return.  For every ‘clever’ investor who sells out at the top and picks up a bargain, there may be many tales of heartbreak. 

It seems that the woes of New Star, the high profile new boy on the fund management block, worsen by the day.  It seems like only yesterday, or last year, that New Star could do no wrong. Their right ups in the Press were glowing and public and advisers alike rushed into their well performing funds.  Now, its funds languish at the bottom of performance tables, managers are reshuffled between funds and its shares disappoint.

This is neither the time nor the place to analyse the exact reasons for New Star’s travails, which may be short lived, but there are lessons to be learnt from their fall from grace.

Out performance of the market can only come through either manager skill or manager luck.  As with Napoleon’s generals, it seems that it is better to be lucky in the fund manager world.  Manager skill is notoriously difficult to isolate and the marketing machine puts a lot of effort into persuading that positive results stem from skill rather than luck.  This, it seems, plays into the hands of much of the public and their advisers because there is comfort in believing that the person managing your money has a special skill.  In order to outperform the market, a manager must make bets by holding investments in a way which are different to their weighting in the market.  I do not think much of granny’s money would wing its way into a fund were the advertising emphasised that the manager had been very lucky with his bets of late.  No, what the public seek is skill, any sap can be lucky.  Skill is worth paying for, luck is not.

The problem with luck is that it turns.  It also cannot be engineered, it is all down to chance.  So, if stellar performance turns out merely to have been luck, as it usually is, there is nothing for it but to await its return.

None of which brings any comfort to those who bought into the skill story only to find it was down to luck.  Someday, perhaps, investment management groups will have to warn investors that any outperformance can only be attributed to luck.  Another reason to stick to tracker funds.

As if things were not bad enough in the banking world, one of France’s biggest banks, Societe Generale, seems to have uncovered a fraudulent trading loss of $7bn at its Paris headquarters.  This news may bring a wry smile to the faces of some of Wall Street’s bankers who have found themselves bearing the brunt of the criticism from many European banks about the dodgy investments they have been sold.

If it were me, I should probably keep quiet about the fact that I had been foolish enough to buy billions of euros of these products for my investors without understanding anything about them, despite having the resources of a major modern bank at my disposal.

Continental Europe, it seems, views the current credit crises and its associated problems as something of an Anglo-Saxon creation so it must be sobering to wake up to some good old fashioned in-house fraud.  Everyone can understand that.  Outsiders, like myself, do wonder how so much money can just disappear over a couple of years without being noticed, it is not reassuring.

It seems that the World’s financial markets are entirely dependent on the US and, in particular, the Federal Reserve Bank to provide any stability in times of turmoil.  On Monday stock markets around the world suffered large losses, some more than 5% as worries about the possibility of a recession in the US came to a head.  Panic fed panic amongst investors throughout the day leaving the wider public to digest lurid headlines about financial meltdown.  Monday, as luck would have it, was a public holiday in the US so no trading took place but forward contracts indicated a fall in excess of 5% was likely on Tuesday with the probability that this would trigger further falls elsewhere.

It is possible to argue for creative destruction but market turmoil does no one much good in the long run and can impact on the wider economy, meaning real people can lose their livelihood.  Globalisation may mean that the poorest people in the developing world may suffer the most.  This means positive action to avert the worst of a crisis is to be welcomed and the world was found wanting, consigned to being mere bystanders. 

The Fed, however, sees things differently and cut rates aggressively before markets opened in New York on Tuesday.  This did not prevent stocks falling but it did cushion them somewhat.  London then led the Far East in mounting a recovery of sorts.  It is clear that the current instability has some way to go yet but it may be possible to mitigate against the worst of its effects.

Of course, it is possible to lay much of the blame for these problems at the feet of the Fed but it is reassuring to see that they are not simply standing back and observing events as they unfold.

It looks as if the outlook for the coming year has worsened significantly even since the doom laden reports around the turn of the year.  It is never comfortable for investors watching markets fall whilst sitting in a home which is losing value and there will be some who will wish they had made different decisions.

So what should investors do?  For those already invested, there may be no other rational course of action than taking a long term view and sitting tight.  For those who are not invested, they face the difficult decision of whether to invest or to stay out and risk missing the boat should the market turn.

It is a sad fact of life that retail investors will happily pile into a market when it sits at a record high (viz the residential property market) but get all nervous when the same assets can be had at a discount.  My advice is always the same; if you are investing for the long term, timing your entry into, or exit from, the market is extremely difficult indeed.  It, therefore, makes no sense not to invest.

If this evidence of the bumpy ride which assets provide gives you the wobblies, then you have to question whether you should be investing at all.  You may just have to settle for a much lower prospective rate of growth in return for greater certainty.

Those who have diversified and last a little of the headline growth will, at least, have something for which to be thankful.

Could the Sovereign Wealth Funds of the Middle East and the Far East replace Private Equity as the Bogey Men of the financial markets?

It now seems incredible that people were wringing their hands with worry about the effect that Private Equity firms with their cheaply borrowed money were having on stock markets.  It is almost laughable now that these outfits borrowed a ton of money cheaply, bought a listed company from its shareholders at a premium, gave it a coat of emulsion and sold it back to the original owners (pretty much), pocketing a huge profit in the process.  Only a year or so ago, these people were going to be the ruination of us all, now their antics look pretty tame in comparison with the current woes in the financial world.

No longer can the Private Equity boys borrow money on the cheap, instead, those with cash are king.  No one has more cash than the oil producers of the Middle East and China.  This means that foreign states are buying up chunks of the finest global corporations and other assets on the cheap.  These countries have become more adventurous in their investments as returns on their once favoured US bonds have dropped.  Meanwhile, our institutions are willing sellers.

The industrious Chinese are creating a veritable cash mountain which, individually, they cannot export because of restrictions.  This compels the Chinese Government to shovel cash overseas to stave off all sorts of problems.

Only last year, the US Government opposed for strategic reasons the purchase of a number of ports by Dubai.  This may look like small potatoes in comparison with the level of influence China may end up with on Wall Street.  Ports are hardly portable but the knowledge and experience these banks have is very much more vulnerable.

It is quite possible that we shall look back on the current credit crunch as the moment when the USA’s dominance in the world’s capital markets finally ended.

The biggest financial institutions in the world have spent the last few years busily taking on a great deal more risk than they understood in the pursuit of profits.  There is nothing wrong with a company making profits, that is why they exist, but many years of profits are being wiped out in one fell swoop.  It is safe to say that most shareholders would have foregone some of the profits of the past in order to preserve more of their capital value, had they but known.  Only, they could not have known because the finest minds available to the likes of Citi Group and Merrill Lynch at incredible cost did not know that their money-making schemes were so fundamentally flawed.

Of course, had these banks adopted a more cautious approach, their executives would have been pilloried and then sacked or the bank would have fallen prey to a takeover, such are the demands of shareholders.  We sow what we reap.

Now, these great institutions, and others, have had to go cap in hand to China and the Middle East for capital.  When the dust has settled, much of the intellectual capital within these firms will partly belong to their fiercest rivals, sold on the cheap.  Oh, how the mighty have fallen.

Dear Janet

Many investors in shares are wondering how they should respond to the current volatility in most Stock Markets and the fear that 2008 will be as troublesome as last year, if not more so.  The answer to this really depends on why you are investing and for how long.  Many cash rich emerging nations, such as Kuwait, China and Singapore, and other wealthy investors are greedily gobbling up almost anything we are selling at a knockdown price.  They have very long time horizons and very deep pockets.  For them, the prospect of picking up stakes in some of the developed world’s finest financial institutions at five year lows is too good to miss.

I strongly suspect that many guardians of public wealth in the UK, for example, company pension funds, are eager sellers and may well have proved once again to have sold at exactly the wrong time whilst buying into, probably, bonds at the wrong time as well.  Like second rate defenders in football, they seem destined to rush time after time towards the player with the ball only to see it deftly passed to another who has space and time.  Oh, the humiliation of it all.  Meanwhile, much as the England Football team are often found to wanting custodians of the hopes of a nation, the trustees responsible for around £1 Trillion of the public’s money are wrong footed by foreign operators to whom they gave the game in the first place.

Where does this leave the rest of us?  Well, if you are investing in shares you really ought to know that they will not deliver stellar returns year after year and sometimes suffer losses from which they can take quite a while to recover.  It makes sense to diversify your investments away from shares alone, this is generally held to be a sensible strategy but you should ask yourself about how long you intend to be invested.  If, like Kuwait, you expect to be an investor indefinitely, then, perhaps, you should not worry about how poorly things are going now but wonder whether you are in a position to buy something on the cheap.  It is odd how discounts in shops turn us into buyers and discounts in stock markets turns us into sellers.

Now may be a good time to reflect on whether you have the stomach for stocks at all, there is no shame in admitting that they hold too much fear.  Fear and greed need to be kept in balance and shares can be more scary than, for example, fixed interest investments.  What is wrong with holding index linked bonds?  They may not offer the prospect of much real growth but you may be able to sleep at night.

It seems to me that the whole basis of ‘Lifestyle Investing’ has been undermined by the twin forces of increasing longevity and the removal of the compulsion to purchase an annuity with pension funds.  I shall start with a quick recap of what I think it means.

The idea of Lifestyle investing is that you are aiming to move completely into cash on a particular date and has been marketed heavily by insurance and pension companies as a solution for retirement planning where it is expected that an annuity will be bought on the day of retirement.  Of course, the last thing anybody wants is for their retirement fund to be exposed to investment volatility, i.e., possible losses, in the run up to annuity purchase.  Better to lock in the gains made over the years of investing by moving the funds gradually to secure investments.  As such, it is hard to fault.

But what if you are not planning to buy an annuity?  If you are expecting to move simply from wealth accumulation to drawing an income directly from your investments, you may not be best served by finding yourself 100% in cash on your 65 birthday.  You may prefer an income yielding balanced portfolio instead, particularly as you may well live for another twenty-five years.  If you are receiving a stable yield of, say, 3% a year as income, it matters less what happens to the capital value of your investments in the short term than that you have a reasonable prospect of being able to maintain your standard of living in real terms indefinitely.

Unfortunately, many Lifestyle funds are bought without any advice so those investing in them may well not have thought through the possible consequences.

If you are the type of investor who habitually chases last year’s performance, you will, no doubt, be about to commit a significant proportion of your portfolio to Emerging Markets.  The MSCI Emerging Markets Index was up 35% last year (so long as you measure your wealth in dollars, that is) and has quadrupled investors’ money over the last five years.  With Commercial Property out of favour and Equities in Developed Markets seemingly dogged by uncertainty (is there ever much certainty about the future?), history would suggest that money will be heaped upon those sectors which can show a strong recent showing.  The question for rational investors is whether this makes sense.

There are two ways of trying to answer this, although both are unlikely to be truly accurate.  Firstly, we can fall back on analysis of the fundamentals, e.g., comparison to historic valuations or economic outlook, knowing of course that life is rarely that simple.  Secondly, we can apply the coin flippers technique and wonder whether we can throw heads yet again.  This is not the place to broaden the discussion into statistics but it would be wise to consider how likely the Emerging Markets sector is to do so well over the next five years.

Most of us, however, will simply place our belief in diversification, happy with the comfort it brings and secure in the knowledge that we do not have all our eggs in one basket.  If you have a hunch about the coming year, it might not hurt to punt a very small amount on it, if only for interest.

The Conservatives are claiming that, based upon figures they have obtained from the Office of National Statistics, one million fewer workers are members of employer pension schemes than ten years ago.  Their argument is that this is due to the present Governments policies, principally the removal of a pension funds ability to reclaim the tax credit on dividend payments.

The Tories are, of course, out to make political capital and this is by no means a recent trend but there is a serious point here.  Employer sponsored pension schemes were, and still are, a valuable source of retirement income and many years of, supposedly, supportive Government policy have done nothing to halt their decline.  My own view is that no cause and effect has been proven between removal of the tax relief and reducing membership (or, perhaps, more accurately, availability) of these schemes, more of a problem has been the increasing protection afforded to members.

Final Salary Schemes now afford statutory protection to their members, meaning that their benefits are, in effect, underwritten by taxpayers.  There is a bit more to it than that but that is the gist.  Protection, of course, comes at a price and it seems that the price for most of us is no scheme.  The dwindling band of final salary scheme members sail off into the sunset secure in the knowledge that the rest of us are guaranteeing their future whilst we of the less fortunate majority are left to rue our loss.  It is a shame that we are turning into a nation of haves and have nots when it comes to pensions and another example of the unforeseen consequences of well meaning responses by politicians to call to ‘do something’.