Better the devil you know

published 8 August 2008

A professional investor tells MoneyWeek where he'd put his money now. This week:Tim Rees, director of UK Equities and manager of the Insight Investment Monthly Income fund.

Last summer, when the liquidity crisis kicked off, it was important to distinguish between the likely reaction of financial markets and the seemingly limited wider economic consequences. But as the crisis developed into a full-scale credit crunch, greater attention has been focused on the scale of the ensuing economic downturn.

Many economists believe that stability breeds instability. So, after 15 largely unparalled years of UKgrowth, it is not surprising things are unravelling fast in areas of the economy that benefited most from the easy credit and low interest rates of previous years. Once the economic impact of the credit crunch became clear, equity-market fears heightened sharply, resulting in fast and brutal share markdowns.

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As a natural contrarian I would normally see recent share-price drops as a buying opportunity. However, for now I prefer to remain patient and stick with the existing portfolio. That's because 15 years of economic growth and excess bred distorted business models and inappropriate gearing levels. So while as an equity-income fund manager I am comfortable with the relatively modest gearing of most of my stocks, I am less sure about others. However, I am confident of avoiding potential "bombs" by sticking with companies I have known for a number of years, rather than taking risks and being accused of an out of the frying pan into the fire' strategy based on juggling the portfolio more in hope than expectation.

Yet, even if it's far too early to have any great confidence that existing business models have been properly tested, it is still vital to determine the investing emphasis going forward. The domestic scene looks unpromising credit availability is now determined by conventional, lower loan/deposit ratios and we are surely close to the point when population growth-driven demand for housing reverses as existing owners start locking in investment gains for retirement. This will take its toll on the high street, but should also throw up some excellent opportunities.

Next, for example, is often cited as the classic early-1990s recovery stock. The lesson I learned then was not to be too price-sensitive, as having initially looked to buy at 10p we decided to lower our buying target to 8p. The price never quite dropped that far and so we missed its subsequent 200-fold increase. This time I am more interested in electrical retailers, where sentiment is weighed down by fear of internet competition and the perceived discretionary nature of their products. On both counts I wonder whether current fears are overdone and, accordingly, DSGI International (LSE:DSGI) is on my list.

Overall, investors should keep Britain's troubles in perspective. While we are certainly not alone in the economic swamp, developing economies, by contrast, could show further progress. This should lead to continued strong demand in areas such as leisure and travel.

For example, British Airways (LSE:BAY), Rolls-Royce Group (LSE:RR) and Carnival (LSE:CCL), although all hit hard in recent months, offer strong industry positions and a play on falling oil prices. This is important, given that oil majors are key stocks in many income portfolios as other high-yield plays, such as banks and construction, are being forced to conserve capital.