Market recovery Featured

2:59pm EDT May 11, 2011
Market recovery

Job growth, increases in manufacturing and boosts in consumer spending and confidence have economists and average Americans alike predicting a better 2011 as the United States moves out of the recession. The economy is transitioning into an expansion phase, which begins when the economy gets past the old high-water mark for GDP, says Bob Leggett, Chief Investment Officer for FirstMerit Wealth Management Services. He believes the phase began early in the first quarter of 2011.

“Capital spending is strong, exports are growing and inventories have not yet been fully replenished,” says Leggett, who has more than 25 years of investment management experience. “All of this means production must continue to grow. While the unemployment rate remains unacceptably high, net job growth is still well established. The depression in housing and overall consumer deleveraging does not mean consumers won’t spend anything at all.”

Leggett provides further insight into market recovery and what investors can expect in 2011.

Do you think the possibility of a ‘double-dip’ recession is valid?

Double-dips are extremely unlikely to happen. The only double-dip recession we’ve seen in modern times was in the early ’80s, and that was done intentionally by Paul Volcker, the chairman of the Fed at the time, because he was working to break the back of inflation. Also, there are always soft patches or mid-cycle slowdowns like we experienced in 2010. When an economy comes out of a recession, it usually runs at a pretty hot pace for a few quarters, maybe even a few years, and then it invariably slows down. We feel there is plenty of pent-up demand out there to allow the economy to re-accelerate as we’ve seen over the past few quarters and we expect the expansion to continue through 2011.

What are the best opportunities for investment right now?

We are big believers in being diversified. That means you want to own a mix of assets — some stocks, some bonds. You want to have different types of stocks, like large U.S. stocks or big cap and small cap. You want to have international stocks. You want to be diversified across the market capitalization ranges and the economic sectors that companies represent. People should always start by thinking through their investment objectives. We work with our clients to create an investment plan and agree on how we’re going to allocate that client’s dollars. And right now, we tell clients they should be fully invested and not have much in the way of cash reserves.

What advice would you give to investors who are still worried about the market?

There’s never a perfect time to make a large change in your investment strategy. If someone has a very small investment in the stock market and could really afford to have a much larger one, we would say they should have a plan for gradually reinvesting. People on the sidelines should be dipping their toes into the water. If an investor tries to perfectly time entering the market, quite often he or she will never enter or will get frustrated and make a big move. And that’s how you end up buying high and selling low instead of the opposite.

Do you see interest rates rising in 2011?

We don’t see interest rates rising significantly in the foreseeable future. Interest rates are still quite low, particularly at the very short end of the yield curve, the shortest maturities, because that’s where the Federal Reserve can force them to stay low. The rest of the yield curve isn’t quite so much in the Federal Reserve’s control, so it’s going to be driven by inflation expectations and expectations as to whether the Fed is going to make any changes at the short end. The yield curve currently is quite steep by historic measures, and the Fed has clearly stated they are not going to increase the short end of rates any time soon. As for the longer maturities, I’d say investors have been back and forth on how concerned they are looking out a year or so in inflation. But overall, the inflation numbers remain very low. As long as unemployment is high, wage growth is going to be hard to come by, and that means that inflation should stay pretty low.

What is the state of the bond market?

Bond interest rates have risen recently. People have been really concerned about tax-exempt bonds. They’re worried the budget problems many states and municipalities have will lead to major difficulties in paying off the bonds when they come due. We think that’s a significantly overstated fear. We tell investors who are worried about tax-exempt bonds to stick to high quality. On the taxable side, we still think investment-grade corporate bonds are pretty good values relative to U.S. Treasury bonds. The Federal Reserve’s Quantitative Easing 2 plan is supposed to be pulling those rates down but hasn’t been successful thus far. We are concerned the Fed may be overly successful at their goal of bumping inflation rates up a little.

What are your thoughts on the housing market?

Housing is certainly extremely weak. It would be difficult for housing starts and permits to get much worse than they are. The problem is there’s no real reason to expect housing construction to pick up a lot either because there’s a huge inventory of homes either for sale or in foreclosure. The housing construction industry is a very small part of GDP now because housing is in a depression.

The question that needs to be answered on housing is: What happens to house prices overall? Prices are down very significantly from where they were. It’s really hard to see, with the improvement in the economy and very little new supply coming, how housing could get worse. Housing construction and increased housing prices would help consumer net worth and consumer confidence. The problem is it’s hard to see either of those areas improving much looking into 2011.

What markets can consumers expect to recover more quickly?

Business equipment spending has been good, and we think it will continue. On an overall basis, consumer goods and services are growing and consumer confidence will be helped by better job growth. The economy has entered a positive feedback loop in which business spending feeds consumer spending, which, in turn, supports stronger business spending.

Reach Bob Leggett at 1-888-384-6388 or robert.leggett@firstmerit.com.