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Look to the US to lead the way out of recession
Whilst America celebrates Independence Day today, it's a timely moment to consider whether the world's leading economy under a new President should be a strategic part of a portfolio.
In global terms, this is clearly going to be a difficult year. Despite the strength of China, the US is still currently the economic powerhouse of the world and likely to lead the way out of recession.
President Barack Obama took the decision to give a massive economic stimulus worth US$787bn despite almost unanimous resistance from Republicans. This has been compared to Roosevelt's New Deal or Lyndon Johnson's Great Society programmes in 1965.
The Federal Reserve has taken the view that the recession will be over by the end of this year and the cycle will move upwards in 2010. The US Treasury Secretary appears to share this view.
Both believe that their policy response to the recession – low interest rates and so called 'quantitative easing' – has and still is working. The official US interest rate is just 0.25 per cent. Deflation may have been averted.
Some of the US banks that were loaned money have started to repay the Government support. Yet there are still problems in the short term, such as rising unemployment, although savings rates are improving and at 4.2 per cent the highest since 1994.
Obama's plan to overhaul the regulatory framework will be the most comprehensive in 70 years. It will give the Federal Reserve more powers, curb reckless risk-taking by forcing companies to raise more capital and meet higher liquidity standards, expose hedge funds to closer scrutiny and create a new agency to protect consumers and small investors.
The International Monetary Fund said a fortnight ago that the US economy was set to grow more strongly than previously expected with a "solid" recovery from recession in mid 2010. It highlighted the risks to recovery, such as the housing crisis and possible rising interest levels. It forecast that GDP would fall at an annual 2.5 per cent. By comparison, the OECD expects GDP in Britain to fall 4.3 per cent.
In the US, sales of existing homes, not newly built, rose at a sluggish annualised 2.4 per cent in May but this is still way above the UK. The number of new building permits rose four per cent.
"On a two to three-year view, the US market is a 'buy' for recovery," tips Martin Payne of Leeds stockbrokers Brewin Dolphin. They particularly like three funds:
n UBS US Equity for a broad exposure to the US market;
n JP Morgan US Equity Income for a more defensive US equity;
n Schroder US Smaller Companies for a more active stock picking approach;
Three investment trusts are tipped:
n Edinburgh US Tracker which is a simple way to play the broader market recovery;
n JP Morgan American for a more active approach to the large cap market and with gearing of some 19 per cent;
n F&C US Smaller Companies on the grounds that acorns turn to mighty oaks.
Rival stockbrokers Rensburg Sheppards like defensive growth sectors, such as food, beverage and pharmaceuticals. Simon Kaye, division director in Leeds, likes the US for "its diversity and efficiency".
With the US dollar forming a large part in the decision to invest from the UK perspective, the current exchange rate is "about right" in Kaye's view.
He recommends buying the best of the best. As example, they have bought Berkshire Hathaway (Warren Buffett's fund), Coca-Cola, Kellogg and GE for clients in recent months.
On funds, JP Morgan American investment trust is his tip whilst for the investor who wants a UK listed stock with a high level of US exposure that will benefit from American recovery, Diageo fits the bill.
Looking at Buffett's fund, it shows good diversification as it includes American Express, Coca-Cola and Goldman Sachs but he spectacularly mistimed his purchase of Conoco Phillips last year when oil prices were almost at their peak. Measured on book value per share, the fund fell 9.6 per cent last year – the steepest decline since Buffett took control over 40 years ago.
Although cautious in the short term, the world's wealthiest man predicts, "America's best days lie ahead".
Over both three and six years, the top performing fund is Neptune's US Opportunities which rose 22 and 64.4 per cent respectively, according to Lipper research. Schroder's US Mid Cap was second best over three years, up four per cent, whilst over six years the stars were Schroder's US Smaller Companies (up 62.3 per cent), F&C US Smaller Companies (up 43.2 per cent) and Scottish Widows North American Smaller Companies (up 28.4 per cent).
When considering funds, avoid those with much exposure to the financial sector. By comparison, much of corporate America is in good shape with cash reserves, falling stock levels and sound balance sheets.
Companies offering good value, like McDonald's and Wal-Mart (which owns Asda in the UK) should prove well.
If looking to replicate the US stock market as closely as possible, opt for a tracker like Legal & General which follows the FTSE World American index.
For an actively managed fund, go for one that really does pick stocks and is not a closet tracker with high management fees.
Neptune's success as the champion fund is partly down to expert sourcing of biotech and technology stocks.
Helped by a thematic approach, Newton's American fund has turned in a good performance. It was ranked second in the IMA North American fund sector at the end of April, outperforming its average sector peer by 13 per cent. Key to this is following technology. Apple, for instance, has seen its market capitalisation jump from $5bn in 2002 to $125bn today whilst Google now is $135bn after only listing in 2003.
The 44th US President does not appear to be downcast but investors should observe their financial history. The first year in office is frequently a poor time for the US stock market. In the 12 months after George Bush was elected in 2000, the US market recorded an 8.1 per cent decline, says ratings agency Standard & Poor's.
With markets often pre-empting economic news, the best approach could be to invest monthly as many providers have cost-effective schemes in place.
To ensure future gains grow as tax efficiently as possible, ensure such investments are placed within the wrapper of an ISA.
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