Cash still reigns as king in a recession
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Cash still reigns as king in a recession

Cash still reigns as king in a recession

The old investment adage that cash is king in a recession still rings true. Global stock markets were down around 10% in the first quarter of 2008 and even hedge funds managed to loose an average of 4%. Real estate stayed buoyant in some emerging markets like the UAE, but is on a downtrend now in many countries.

    Cash might look a poor investment with low interest rates, dollar devaluation and rising consumer price inflation.

    But in a world characterised by asset price deflation then cash is still rising in value relative to everything else, except perhaps food and energy.

    Another way to look at this is to say: now that prices of houses or shares have fallen my cash will buy more of them. But it is hardly any wonder that even professional investors are confused about which way to jump at the moment.

    The biggest economy in the world is in trouble, with falling house prices now compounded by falling share prices and a financial crisis with a grid-locked credit market. Most economists now finally accept that the US is in a recession.

    US recession


    But the jury is still out on whether this will be a shallow recession, or something that drags on much longer and causes more damage. Optimists are just about keeping their heads above water at the moment, yet they are struggling.

    The root cause to the current malaise is that house prices are coming down, and the banks that lent the money to finance this boom are in trouble as their customers increasingly find it hard or impossible to pay their mortgages. The International Monetary Fund (IMF) has come to the shocking conclusion that this might cost the banks a total of $1 trillion in write-offs.

    It would be nice to think that $1 trillion could somehow be brushed under the carpet and forgotten but this sum will leave the banks short of capital. In fact it leaves them in a major financial crisis, and some like Bear Stearns will not survive, let alone continue lending at a reduced rate.

    Financial crises do always come to an end. The Great Depression of the 1930s was finally brought to an end by the huge economic stimulus of the Second World War. The 1973-5 Oil Shock took a decade to work through the system.

    Global recession


    But to expect a sudden and miraculous recovery in the US economy looks rather over-optimistic. Far more likely is surely a spreading of the economic downturn to other parts of the world via the mechanism of reduced trade flows and US dollar depreciation. That would mean a downturn in Europe and Japan as well as the emerging markets like China and India, and a fall off in demand for industrial commodities like steel and oil.

    The IMF recently said there was a 25% chance of a global recession, and how long ago was it that economists were giving a similar chance of a US recession? In such circumstances investors should include a high cash element in their portfolios, along with defensive stocks and precious metals.

    If nothing else the value of cash will rise in terms of hard assets that fall in price, and the liquidity of cash is unequalled in a recession when it can be very hard to sell things and the best time to buy.
    Author
    AMEinfo Staff

    AMEinfo staff members report business news and views from across the Middle East and North Africa region, and analyse global events impacting the region today.

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