Head and heart playing in different teams: Alphen Asset Management

Adrian Clayton of Alphen Asset Management writes that it is most difficult to make investment decisions when the heart and head don’t want to play in the same team.

The news flow at the moment is not encouraging and that is applicable to wherever one looks.

In South Africa, we have serious strike action, ongoing signs that corruption is becoming a domestic epidemic, and now Government is fiddling with a sacred cow that unites all South Africans – our media.

In Europe, economies are certainly not acting as if they all belong to one happy family. Germany, as we predicted would be the case a while back, is firing on many cylinders, the weak euro has stoked its exports but against that domestic demand is muted. But Germany is the over-sized brother and the other siblings are on a completely different economic plain. Debt, as we know, is cancerous in its effect and ‘low and slow’ seems to be the prevailing growth pattern in Europe for the foreseeable future. One blessing is that single monetary union has yet to disintegrate as was largely predicted by the naysayers only a few months ago.

Then we head across the Atlantic and the most concerning picture is presently emanating out of the USA. From swift growth only just the other day, the economy has hit a brick wall and the latest data releases have raised the remaining hairs on any old school asset manager’s back. Bernanke is looking for more measures to prop up the economy and it is increasingly becoming clear that artificial and unnatural stimuli such as housing credits, a special state sponsored vehicle rebate systems called ‘cash for clunkers’ and close to zero interest rates have been the crutches on which the US economy has been resting.

This can be described as ‘Zimmer frame’ economics. Scary stuff if one considers how much ammunition has already been fired at the problem. Increasingly, Mr. Bernanke’s tools are looking blunt. The real concern must be an economy that stops responding altogether to fiscal and monetary interventions. We are certainly not there yet!

In the ‘Land of the rising sun’ the picture is one of bizarre bureaucratic bungling. There are few examples in the past century where an economy has been so poorly managed. Add recent currency strength to a cauldron of no growth where deflation has been public enemy number one, and one senses more pain is on the horizon. Japan is geared as a manufacturing hub that needs the currency to play fair for an export driven recovery. A strong yen has two painful consequences, it reduces imported prices whilst the government is trying to re-inflate an economy, and it erodes export competitiveness. Japan competes with Germany in servicing countries like China with high-tech machinery to drive their industrialisation strategy. Currently Germany has the weak euro to assist it and Japan the strong yen to derail it!

But against this negative macroeconomic background, many stocks are not expensive. In fact, many companies are the cheapest they have been for many years. High quality, cash rich companies that pay investors handsome dividends are available on many of the World’s quality markets at rock-bottom prices. This includes household names such as Microsoft, Johnson and Johnson, John Deere, Tesco and many others. Unfortunately, it is more difficult to find dripping roasts in emerging markets as most of the stocks have been buoyed by investor demand on the back of these markets having enjoyed economic tailwinds. South Africa is no different. Our market as a whole is not that cheap but we are finding select companies that offer value.

So our story is that the economic backdrop seems ghastly and negative sentiment is high. This is pulling at the heart strings and detracting from the important and blatantly obvious issue that investors with an eye for quality that are willing to take a longer term view on matters are likely to do extremely well out of quality equities.

Be assured, when it comes to making money, the head always beats the heart!