Continued from The Journey Through the Desert (I).
However, whilst many issues with sound fundamentals will reach maturity without incident, others will be subject to credit events with unpredictable outcomes, and some estimates suggest that 20% of the total will experience some form of credit event in the coming years. The worst part is that investors will not be able to know whether their corporate debt portfolios will be affected by such an event until maturity, even though many boast about the potential nominal returns over the life of the issue. These days, with fixed-income investments, it’s not how they start, but how they end.
It seems logical to assume that the most challenging years for the creditworthiness of these corporate (and government!) issues will be 2009 – the year we are in – and probably 2010 as well, or even 2011. Why? Well, amongst other reasons, because one of the root causes of this multifaceted crisis – the sub-prime mortgages that are causing so much damage to the financial system – is set to reach its peak in terms of defaults and repossessions over the next three years. And this, like the wider crisis, will lead to a credit crunch, falling profits and financial distress amongst companies, banks and governments. If the Mistrust If we factor in the resolution of credit problems over the next 2, 3 or 4 years, the remaining outcome will be the economic and social crisis itself – which is no small matter. It is impossible to predict how long the economic crisis itself will last, as we have entered a depression for which we have no historical precedent. The The Great Depression which began with the Crash of 1929 lasted a decade and required a world war to bring it to an end, and is the only point of reference, alongside what Japan has been enduring since 1990 (two decades). It is therefore clear that comparisons are difficult and dangerous, as the world today is a very different place.
However, we want to offer a glimmer of hope in the midst of Perfect Storm. During the second half of 2007 and throughout 2008, we were faced with the unknown: the collapse of a credit and financial house of cards on an unprecedented scale. This was accompanied by desperate bailouts from the world’s most powerful nations (and also from the less powerful ones, which are doing what they can within the limits imposed on them), in a display of unity and recognition of the gravity of the situation unlike anything seen before. Now, in 2009, we are fully aware of what we are facing, with the exception of a few unprofessional and political figures who have yet to realise the true extent of the situation. And this realisation that a dramatic immediate future lies ahead makes us less vulnerable, whereas over the past year and a half there were still many who were caught off guard.
The financial desert will be long and hard, and the economic desert – which is already beginning to cause serious social hardship – will be even worse. Unemployment, redundancy schemes and business closures will continue, and as benefits are phased out over time, the decline in consumption – and therefore in the economy – will become more pronounced. But now that we are in 2009, having braced ourselves and gritted our teeth, we stand a much better chance of reaching the light at the end of the tunnel, with our assets shielded from the minefield we first entered back in the summer of 2007. Financial uncertainty and mistrust are probably already subsiding, or will do so shortly, but the economic crisis and social hardship are set to last a long time.
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