This strategist is watching if interest rates peak
Ewen Cameron Watt does not deny that Merrill Lynch is a conservative investment house, even though it is not sexy to be overly scrupulous in the New Economy. The brokerage's fund managers pay him heed, because, as chairman of its central strategy group, he devises the "clear house views" around which portfolio managers construct their weightings. But Cameron Watt believes time will validate the house's investment strategy. He discussed the current market with Asiaweek's Yulanda Chung in Hong Kong. Excerpts:
Do you think the bull market in tech stocks is finally over?
A lot of stocks have actually gone down in price, a lot of those down by more than 20%. We're in what I'd call a stealth bear market with a bubble on top; and that bubble is best described as Nasdaq.
But hasn't the Nasdaq bubble already burst?
Yes, to a material extent. But bear in mind it was 2,500 as recently as October last year, and it is below 3,600 now. The Nasdaq has cooled but not crashed. About 40% of the 1,400 point drop from 5,000 was due to Microsoft, which was 16% of the index. Now it's about 7% or 8%. If you bought Nasdaq stock on margin in February, you're feeling pretty damaged now. But if you bought in October or November last year, you're still 15% up.
So you think the correction is a sign of worse to come.
There is a chance that this will be the first time since 1992 when global equities won't rise over the course of the year. However, U.S. retail investors have had a really long period when it was absolutely right to buy the dips. If you look at world equities on a quarterly basis, the last time we had two consecutive quarters of world markets in decline was in 1998. You bought in the low quarter, and by the next quarter in just about every case it would have been up. There is an enormous belief that when prices go down, it's an opportunity rather than a threat. Those investors who have followed this strategy have not been disappointed.
Should investors still go after dotcoms?
No doubt there is a lot of demand for them. We prefer business-to-business-and business-to-consumer models. Companies like Samsung Electronics in Korea, TSMC in Taiwan, ASM Pacific in Hong Kong, Datacraft Asia in Singapore come to mind as good companies. But you stand a better chance of success buying tech companies in the U.S. than in Asia of the same valuation. It's fascinating to watch the rise of [Hong Kong Internet company] Pacific Century CyberWorks, but it's important to ask how much of my client's money I want to invest in that idea as opposed to Oracle or Cisco Systems.
Are you advising your house to be neutral about equities?
The U.S. represents roughly 50% of the global market. If you are holding much less than 50%, you have to be negative about equities overall. We're recommending a neutral policy on U.S. equities and now hold 60% for the U.S. market. We think returns are going to be disappointing on equities, but it's not sufficiently disappointing to get away from them.
Has this got anything to do with rising interest rates in the U.S.?
Federal Reserve Chairman Alan Greenspan has been quoted a number of times saying investors shouldn't overestimate the importance of interest rates. But we've had rate rises since spring last year. It takes time for them to work through, and it takes longer than normal for the tightening to take effect because the channel has become more indirect. We believe rates will peak at 7% [now 6.5%], with a steady 3.5% to 4% growth for the economy. As soon as the market perceives that the U.S. economy is growing at a slower rate and interest rates have peaked, we'll be switching out of cash into equities.
Will the U.S. presidential election slow down rate rises?
In 1980 [Fed chairman] Paul Volcker pushed interest rates to 20%, and many people say that he did more to elect Ronald Reagan than anyone. But I don't believe for one moment the election is a major factor. If it is, we're all in trouble.
Why is Merrill Lynch so conservative about equities?
As a house, we take a long view. We aim to beat the index. We've had a really frustrating period for the last few months. While we've been consistently beating the index, our competition has been consistently beating us because they're taking bigger risks. You can be rational and still find yourself eating dirt. But how long is your client prepared to do that? Are we in the business of beating the index or the competition? The answer is definitely the former not the latter.
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