The world is not in a happy place whichever way you look at it. Investing in these times means forecasting the road ahead as best you can – ensuring that potholes in your investment portfolio don’t turn into craters.

Over the past year, the consumer discretionary sector has sold off by some 22%, the materials sector is down 15%, REITS have fallen by 10%, the financials sector is 8% under and industrial stocks are down 14%. And then there’s individual stock risk – with some stocks like Paladin Energy shot down by 61% over 12 months; Macquarie Bank has fallen 33% over the last 6 months. Only investors who are nimble and err on the side of caution will perform well in these markets. Don’t let a ‘she’ll be right mate’ attitude drive you to losses. These are not the times to be light hearted.

There’s the argument that times like these offer opportunities for great wealth, and it’s true. If you get onto the right asset class during broad market sell-offs, you can reap once-in-a-lifetime rewards when a turnaround comes. Yes, you have to be patient and you have to suffer some short-term pain, but gains can be significant.

New Strategies For A New Climate

What is clear is that the current market environment requires new strategies and a new approach to investing. No longer can you buy your bank shares, happy in the knowledge that dividends and some capital growth will fatten out your retirement nest egg over time. No longer can you count on your family home appreciating in value over the next ten years, or for those resource shares to keep on rising.

In today’s climate, you have to take profits when you get them and be vigilant against any major risks. You also have to look through the mess of signals to spot the opportunities out there – and there are many. For instance, agricultural commodities and agricultural land, possibly oversold US bank stocks, Aussie stocks leveraged to the consuming middle class in Asia, specific commodities such as oil, and the online retail revolution are some areas to watch.

Stimulous Packages Haven’t Worked

But the hot spots will be fewer and farther between. Don’t expect financial, property-related industries, banking, retail, consumer discretionary, and mining sectors to post returns like the heyday boom times stretching back some 30 years. The debt-fueled boom has culminated in a string of bankrupt economies including many countries in Europe, as well as the US and Japan. Over one-third of the total US national debt has been accumulated over the past 3 years; just think about this for a second, the country is some 244 years old.

Following the global financial crisis, the US government and central banks placed another band-aid of debt to cover the gaping hole. In 2008, trillions of dollars swam through the US system via tax concessions and higher public spending; interest rates were kept at near-zero levels and the central bank cranked up the printing press. In response, the US economy sank by 8.9 per cent. Mission not accomplished.

According to Satyajit Das, author of Traders, Guns & Money China’s headline debt to GDP ratio of 17%, approximately $1 trillion, is misleading. “If local governments, its state controlled banks, state owned enterprises, and other government supported debt are included, then debt levels increase to 60 per cent ($3.5 trillion), compared to America’s 93 per cent of GDP. Some commentators argue that China’s real level of debt is far higher in reality, well above 100 per cent,” writes Das.

Japan’s government debt to Gross Domestic Product is over 200 per cent, he notes. The country’s tax revenues are less than half of its outgoings and the rest must be borrowed. Das predicts that a decline in the savings rate and an aging population will make it increasingly difficult for Japan to finance itself in the future.

Debt levels mean protracted long-term growth

It seems like we’re at a fork in the road and whichever direction debt-ridden countries take will lead to lacklustre returns over the foreseeable future. Governments that tackle their debt burden by cutting government spending and raising taxes will suffer sagging growth for decades to come; governments that decide to default will send financial markets into a tailspin.

The major concern for economists is when a negative feedback loop is cranked into action; rising unemployment leading to slower consumption, forcing more businesses into bankruptcy, further eroding consumption levels and so on.  According to Das, the real unemployment rate in the US – which includes people without work, people involuntarily working part time because they can’t find full-time employment, and people that have given up on work – is some 15-20%. He says the number of American families currently living in poverty has risen to 46.2 million people.

The chart below shows the staggering size of the US economy in comparison to China.

The US economy still dwarfs China in consumer buying power. But if 46 million US citizens – and rising – are currently living in poverty, surely that will affect the world economy, including China and the BRICs nations.

Emerging markets are cooling

Don’t bank on emerging markets being the X factor that keeps the world economy chugging along, says Das. These countries, too, are starting to sway under a volume of debt, including bad debt that will eventually get written off. And as consumption continues to plummet worldwide, export volumes from the emerging nations will dry out.

But why did emerging markets survive the global financial crisis? Largely, stimulous packages bandied around by developed nations boosted exports of the emerging countries; on top of this, emerging markets won from the sea of investment dollars flinging from ravaged US and European markets into supposedly safer, and higher-returning investments. Bloated commodity prices have benefited countries such as Russia. But these were short-term events that have now come to pass.

Already there are warning signs that hot emerging markets are cooling and that commodity prices will continue to come off the boil. Moody’s is especially worried about the state of Russian banks should global uncertainty see a prolonged decline in commodities prices. A decline in the value of Russian exports would tip the Russian economy into recession, Moody’s warns.

India’s economy grew at the slowest pace in more than a year, represented by a poorly performing manufacturing sector, a downward trend in industrial production and a decline in foreign direct investment. The Reserve Bank of India raised interest rates to the highest level amongst its Asian neightbours in March to tackle soaring inflation. Household spending is falling sharply. Also, of interest, is that farm and agricultural output in India exhibited a major upswing, growing 7.5% for the quarter, compared to 1.1% in the previous quarter (read more below).

Brazil’s central bank cut its benchmark Selic rate this week by half a percentage point, citing concerns of a slowdown in the developed world. But aren’t emerging markets mearnt to be decoupling from the developed world? Hardly.

Commodities boom comes off the boil

Investment banks have been axing commodities teams in anticipation of a slowdown. Barclays Capital, UBS, Societe Generale and Standard Bank have sacked commodities staff in recent weeks. JP Morgan has reportedly reduced its maximum daily exposure to commodities, while boosting its exposure to credit and currencies. Societe Generale has reportedly closed its coal-trading desk in Singapore.

Nevertheless, diligent investors with their hand on the sell trigger can continue to make money out the world’s most precarious sector. As a case in point, the top 10 performing companies in the ASX300 are mining stocks with returns in the vicinity of 130% for Iluka Mining. Other top miners this year include Aurora Oil & Gas, Sampson Oil & Gas, Bathurst Resources, Regis Resources, Hunnu Coal and Beach Energy.

Farmland set to rise

Farmland prices in the US are soaring, while residential and commercial properties are stagnating at lows. Famed commodities investors Jim Rogers as well as George Soros are buying farmland as a hedge against inflation as well as to position themselves to benefit from a world population set to hit 7 billion this year and 10 billion by the end of the century.

There has been much written about the boom in multinationals buying farmland around the globe, from Argentina to South Africa, and including here at home. International buyers including Government-backed companies are snapping up Australian farmland before our very eyes; over 100,000 hecatures of farmland in Western Austraia was recently acquired by the Arab States. Clearly, you’d have to be a fool to allow foreign-companies to buy up your food source (just ask Dick Smith), but that’s another matter altogether. The moral of the story is that farmland prices are rising, offering a potential hot spot in years to come.

US Bank Stocks

Financial stocks in the US are the worst-performing sector in the S&P/500 index this year, tumbling over 20% – with brand-name stocks like Bank of America, Citigroup and Morgan Stanley sitting at levels not thought possible five years ago.

Although bank stocks are not in a fundamentally great shape at the moment, it’s hard to believe that a bank – the producer of money, and the epicenter of greed – can wallow at share-price lows forever. Many US banks have much higher loan balances and higher tangible book value than the years following the crash. Today, the largest US banks face less competition with rivals successfully squashed during the GFC.

The Switch To Online Retailing

When the countries billionaires are piling into a sector most of us should stand up and take notice. The online retail industry is one such place where local investors like James Packer and the co-founder of Seek Andrew Bassat, in concert with a string of investment houses are seeing the long-term potential in online retailing. Watch this space.

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