Economy, investors brace for a bumpy ride

The first day of trading in the new year should have served as a warning to investors that 2008 will likely be a tough year for the economy and for investors.
JAN 07, 2008
By  MFXFeeder
The first day of trading in the new year should have served as a warning to investors that 2008 will likely be a tough year for the economy and for investors. Unfortunately, many investors may still be recovering from New Year's celebrations, or, if they are alert, remain frozen in the headlights of uncertainty. Planners and advisers who take the initiative with their clients to review long-term financial and investment plans will truly earn their keep this year — if they can safely guide their clients through the rocky shoals ahead. While most individual investors should invest for the long run, the long run obviously consists of a series of short runs. In other words, long-term decisions should be reviewed regularly, and plans and strategies adjusted when necessary to meet changing conditions. This seems especially crucial this year, and the sooner the better. As the new year begins, it is apparent that conditions have changed. For most of the past four years, investors could take comfort in being carried along in the current of a growing economy — one so strong that even the Hurricane Katrina disaster and the resultant high energy prices barely slowed it. That allowed many to hold a heavy equity exposure during those years, reaping the benefits of a market recovering from the bursting of the dot-com bubble. Now they are confronted with an economy that is showing weakness in many areas and apparently is slowing, a circumstance the subprime mortgage disaster and the collapse of the housing bubble helped to trigger. Now, only a couple of market sectors are showing any prospects for strong results in 2008, notably commodities and alternative energy. But the market could easily be negative for the year, especially if the economy slips into recession. As a result, a diversified stock portfolio may not provide much protection over the next year. To be sure, for the first time in more than a decade investors are likely to be confronted with significant inflation as commodity and energy prices make their way through the economy. That places investors and their advisers in a quandary: While bonds are a safe haven when the stock market outlook is uncertain, bonds are no place to be when inflation looms. Complicating the investment picture are uncomfortably low bond yields that have been driven down by domestic and foreign investors who have sought shelter from the uncertainties of the U.S. stock market. The result is that yields are unattractive for latecomers, especially those who need income in retirement. Treasury inflation-protected securities are a safe harbor against inflation for investors. But for those in need of income, the TIPS yields, at just 2.36% at the most recent auction, may also be unappealing. Also, during the year, any move in long-term yields is far more likely to be up than down, driven by inflationary pressures and causing capital losses on any bonds bought at these levels. A growing number of retirees are converting accumulated retirement assets into a steady income. This year is the first in which many baby boomers can take early retirement, with many likely to do so. Those who suffer a significant loss in the first year, during which they are drawing on their assets for income, may never recover. This year, planners and advisers will have to draw on their knowledge and experience — in ways they may not have had to do in recent years — to review plans with their clients and to make changes where necessary. Some of the changes may not be popular because they may involve changes in assumptions about returns and hence have an effect on lifestyles.

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