Investors sometimes forget that not all years are good for global asset prices. There have been some very bad ones: 1929, 1974, 1987, 2000, and how about 2007?
One tell tale sign is that the downside of most investment opportunities now looks considerable while the upside is much smaller, and usually only achieved through leverage which also increases downside risk. Let us review the major asset classes.
Real estate prices are falling in the US and look stretched in major markets like the UK and even emerging markets such as China. Rising interest rates are the obvious cause for a decline but values have also reached a natural tip-over point from too many years of increase.
Global equities look highly valued if you consider dividend payments on shares which are at a multi-decade low. Meanwhile, global economies look at a peak in their cycle and interest rates are rising while the inverse yield curve in the US usually means a recession is in prospect. Not a time to hold shares.
Bonds and inflation
On the other hand, rising interest rates have been bad for bond prices, and have continued for longer than expected. It could well be that bonds outperform equities in a slump but equally inflation could ensure that real returns are very low.
Or take commodities, and oil and gold prices are down since their peak last May, and industrial commodities will come under further pressure in an economic downturn.
This is not to say that global asset markets will not hit a bottom at some point in 2007 and then be a good buy. The trick surely is to have cash at hand so that you will be in a position to buy when others are not.
The true professional investors like Warren Buffett are never short of cash when it counts. They treat patience and self-discipline as the vital qualities for good investment policy, spotting opportunities and then sitting on the sidelines until the time and price are right.
One useful approach is to build up a list of investments you would like to own if the price was lower. What class of asset do you think will perform best in the future? What special situations can you identify within them?
But in the meantime withdrawing from markets and into a high interest or fixed deposit account is a strategy in itself. For in a big asset sell-off the US dollar would rally as investors sold down their portfolios into cash and the demand side of the trade deficit fell.
Contrarians often note that the next best performing asset class is often the weakest recent performer. On this reckoning the battered and maligned US dollar ought to be the star candidate for rehabilitation.
And the starting point for this process is surely that returns on other asset classes have become so weak that interest on dollar accounts is looking an attractive, safe alternative: so will the price of the underlying asset now improve?