October 11, 2008--article from the Toronto Star

The following article is written by David Olive, a business columnist with The Toronto Star, who shares his take on making sense of current stock markets.

Please use the link below, or, if the link becomes inactive, I have copied the article below.

http://www.thestar.com/article/515946

TheStar.com - Business - Harper's not wrong on bargains
Markets to worsen before stocks hit rock bottom
So, in these uncertain times, what to do about your stock portfolio?

October 11, 2008 David Olive, Business Columnist

Buy on the sound of cannons.
– Rothschild family investing maxim

Some of us might be tempted by the bargains emerging in the incredible shrinking stock market. But we're waiting to exhale. Since last fall, when the looming global credit crisis first began to command the attention of the powers that be, the worldwide emergency crew of central bankers, finance ministers and regulators have, with mounting aggressiveness and creativity, experimented with a succession of more drastic rescue measures. So far, none have restored the investor confidence needed to arrest the downward spiral in stock values.

This week began for me with a call from an investment banker acquaintance urging me to join with his peers in "going to cash." By which he didn't mean GICs. He meant taking enough cash out of the bank to cover expenses for a few months. If today's plummeting share values go on much longer, "going to the mattresses" will no longer mean preparing for a war among the five families, as it did in The Godfather.

Yet, the global stock-market decline of nearly 40 per cent since June's peak is typical of severe bear markets, from which patient investors stoic about their paper losses have subsequently done very well. Just as bull markets always end, so do bears. And as an economist noted Thursday on PBS, "it's rare that you see this level of pessimism at the outset of a market collapse. It's more characteristic of the end."

Caution certainly is warranted. We're still a ways from the previous Dow Jones industrial average nadir of 7,286 in October 2002. Conditions likely will worsen further before equity markets bottom out. Investors already have been punished. I haven't seen Canadian estimates yet, but Americans are suffering a paper loss of about $2 trillion (U.S.) in their retirement savings. And it's tough to restore investor confidence when the news is dominated by the sudden disappearance of once-mighty U.S. financial institutions that controlled $11 trillion in assets.
Yet, it's too bad the expression fundamentally sound lost its reassurance value at the time of Herbert Hoover. Because the real economy is sound. Canada created 87,000 new jobs in the first eight months of this year, and 1.5 million since 2002. The jobless rate of 6.1 per cent is modest by Canadian standards. An otherwise gloomy report by the International Monetary Fund last week said that with an estimated GDP growth rate of 1.2 per cent, Canada will outperform its G8 peers, while avoiding recession.

Corporate balance sheets worldwide, outside of the financial sector, are for the most part strong. Inflation and interest rates are historically low. These are unusual signs of vigour for a downturn. The real problem is that stock markets are a slave to a global credit market in paralysis, a novel scenario in modern times. A U.S. capital markets observer last week said that "No one's afraid to lend to Berkshire Hathaway or Microsoft. It's only the financial companies they're leery of, because no one knows the true value of the 'assets' on their books." Yet, while it may be the arcane world of high finance that's gone haywire, not the broader economy, investors fret that eventually such recession-resistant firms as McDonald's Corp. will run dry of funds to pay its meat-patty suppliers.

But the point at which the real economy is starved altogether for capital is far off, and likely won't arrive. The orthodoxy-busting measures taken by world governments haven't yet had time to kick in. And it's manifestly evident that governments are prepared to do anything required to get credit markets functioning properly again, even if they have to convert post offices to state-run bank branches.

So, in these uncertain times, what to do about your stock portfolio?
Think twice about selling, because that will just lock in losses that now exist only on paper. It is a good time to evict the dogs in your portfolio and take a 2008 tax loss.

If you're invested in battered blue chips, and bought them, as Warren Buffett has long advised, because they're good companies worth owning forever, it's probably best to hang on for the inevitable upturn. There's no need to sell companies if they retain the solid balance sheets, consistent dividend payouts and dominant market-share position that drew you to them in the first place. These companies will emerge stronger from the downturn, if only for their ability to benefit from bargain-priced acquisitions and the shakeout among weaker rivals.

Finally, should you engage in bargain-hunting, the last thing on the minds of today's panic-stricken investors streaming for the exits? The answer is yes, if you believe, as I do, that this century will be the most prosperous in history. This century will be bereft of wealth-destroying world wars and will see developing-world economies – and not just China and India – striving for developed-world living standards. In what we once quaintly called the Third World, there will for decades be voracious demand for power plants, upgraded public-transit systems, the firefighting water bombers in which Bombardier Inc. has a global near-monopoly and the Waterloo, Ont.-designed BlackBerrys.

What to buy? The global food shortage that made headlines last summer hasn't gone away. Yet, such agribusiness stars as Potash Corp., Agrium Inc., Deere & Co., Archer Daniels Midland Co. and Monsanto Co. are all trading at about half their five-year highs.
Infrastructure giants that build power plants, elevators, construction equipment and lighting systems, including General Electric Co., United Technologies Corp., Caterpillar Inc. and Siemens AG, are trading at a one-third to 50 per cent discount to their five-year highs.
And each pays a generous divided (6 per cent in the case of GE) to cushion the short-term blow even if these stocks have a bit further to fall before rebounding. Leading chemical producers share that distinction, including BASF AG, Dow Chemical Co. and E.I. du Pont de Nemours & Co.
Some of my favourite defensive stocks are also available at fire-sale prices:
Walgreen Co., the dominant U.S. drugstore chain (about 50 per cent off its 5-year high); Rona Inc. (down about 60 per cent, and takeover bait for Lowe's Cos. or Home Depot Inc.); Big Pharma stocks Merck & Co. Inc. and Bristol-Myers Squibb Co., each trading at little more than half their 2003 price and boasting outsized dividends; and Cisco Systems Inc., the world's best-run supplier of telecom and Internet gear trading 45 per cent below its five-year high.

"There are probably some great buying opportunities emerging in the stock market as a consequence of all this panic," economist Stephen Harper, whose day job is running Canada, said earlier this month. "When stock markets go down people end up passing on a lot of things that are underpriced."
Harper was excoriated, of course, for real or perceived insensitivity to those with paper and locked-in losses, retirees in particular, during the admittedly cruel market of the past several months. But on this point, at least, Harper's empathy deficit doesn't make him wrong.

David Olive writes on business and political issues. He can be reached at dolive@thestar.ca.