August 6, 2012

By William Tharp, Senior Economist, DundeeWealth

The industrialized countries, with the possible exception of Australia, have all embarked on a lengthy voyage of what I like to call “economic downsizing”. This term means that the trend of potential economic growth will gradually ebb because of two demographic factors – a slowing rate of labour force growth (low birthrates several decades ago and increasing retirements) and reduced incomes, in part because of retirement, or slowing income gains. Thanks to these factors the potential returns on investment have been receding just when baby boomers saving for retirement need elevated returns. Demographic changes have already chased down bond yields to what many wrongfully think are unsustainable lows, yet these shifts are likely to continue for at least another 10 to 15 years. Here are some key pointers:

• Baby boomers will, if anything, become even more risk averse as the “downsizing” adjustment continues.

 

• Bond yields will continue to set new lows despite occasional cyclical upticks.

 

• Policy rates will be glued to the floor for years to come.

 

• The compression of price/earnings ratios will likely continue or the ratio will remain unusually low for an extended period.

 

• Companies finding fewer domestic investment opportunities will either shift investment to the often treacherous overseas markets or increase their payout ratios/dividends.

 

• In an extended low interest rate environment stocks will become increasingly attractive as long term holds because of their dividend yields albeit with a degree of offsetting capital depreciation risk.

 

The decline in potential economic growth does not mean that domestically oriented growth stocks are dead or that all will be subject to periodic downward price adjustments. There will still be niches to be sought out by fund managers, including areas such as technology and pharmaceuticals, as well as in better growing foreign markets. And, believe it or not, there are some well known domestic stocks that appear poised to do rather well by servicing segments of the population suffering from constrained/reduced incomes, and those groups that have minimal skills and education, yet ironically maintain relatively high birth rates. 

Source: This article was excerpted from DundeeWealth's Financial Monitor, July 20, 2012, www.dundeewealtheconomics.com

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