Crystal gazing

Predicting what 2009 might bring, after last year’s stock-market snafu, would be akin to committing hara kiri. But, as they say, history repeats. And advisors can survive this year by taking cues about investment and insurance cycles from precedents set in the dotcom downturn that ended in October 2002.

When the IT bubble burst, the bear market that followed started with very high valuations and profit/ earnings multiples, which then dropped dramatically. That same drama is being replayed today, except that the valuations were markedly lower when the decline began, suggests Bob Gorman, chief portfolio strategist at TD Waterhouse in Toronto.

And if the past is any indicator, Canadian and U.S. stock markets will improve this year, with solid companies that’ve been bullied by the bear recovering some of their valuations.

“If you stand back and take a look at the big picture and what happens once you bottom out in these situations, you inevitably make some pretty strong advances. I don’t see why this would be different,” asserts Gorman, a 21-year veteran of fund management, investment counselling and portfolio strategy.

One positive development, Gorman says, will be an improvement in tight credit conditions in both Canadian and American markets, underpinned by declines in the LIBOR. “It’s a good indication that fear in the system is starting to dissipate because that’s the rate at which international banks lend each other money,” he argues. “And lower rates signal less fear in inter-bank lending.” Fears will further ease as a result of governments worldwide deciding to cut interest rates, make cash infusions into their financial systems, and provide sovereign guarantees.

But what about the negatives? For Canada, there will be a continued shift away from cyclicals, reflecting drops in commodity prices and commodity stocks induced by slowing economies. Canada’s financial equities have already taken a beating, but they have good recovery prospects. Gorman cites Manulife Financial, which exhibits that kind of recovery potential.

Further, a strong belief that fuel prices will eventually recover should lead to an interest in energy majors whose share prices have tumbled, reflecting a conviction that natural gas prices have bottomed out. “I think your risk reward is very much on your side there,” Gorman says, cautioning, however, that growth won’t occur in the near term. For the U.S. market, negatives include the various ongoing financial crises, projected negative economic growth and shrinking or negative corporate growth in the near term. Positives include continuing low valuations and profit/earnings multiples as well as continuing low yields of U.S. treasury paper at around 3.7%. That threshold looks relatively poor when stacked against anticipated earnings yields of stocks, which Gorman estimates at around 6% for the year.

In the meantime, the roller-coaster ride will not suit the faint-hearted. Gorman believes American equity valuations, combined with huge amounts of cash currently sitting on the sidelines, will lift the market with periodic rallies in advance of an actual turnaround.

A bona fide turnaround is one of two scenarios with implications for advisor revenues drawn by Ian Russell, Investment Industry Association of Canada president and CEO. In a recovery scenario, which he believes has a 70% probability, the market will continue performing badly for the first half of the year, but bounce back during the second half, driven by improving economic conditions, corporate profitability, returning con- fidence and other factors. That would mean $7.5 billion in revenues, down from the estimated $8 billion for 2008.

In the other scenario, to which Russell gives a 30% probability, the pattern set in the last two quarters of 2008 will continue essentially unchanged, and member revenues for retail transactions this year will amount to $6 billion, $2 billion below the 2008 estimate. Regardless of which scenario crystallizes, insurance-licensed advisors appear well positioned for increased revenues, suggests Kim Shaheen, president of Regina-based Kim Shaheen Financial.

“In better times, many insurance advisors did a lot more investment business because it was easier. They’re now coming back to insurance,” he says, suggesting reasons that include the need to compensate for reduced income from investment products.

But although markets remain in turmoil, many clients with available dollars have understandably become hesitant to take on new investments. “There are a lot of people who are still doing well. They’re more willing today to talk about insurance and look at permanent solutions than they were six, or eight, or 12 months ago,” Shaheen says. These solutions include traditional life insurance and disability insurance as wealth protection.

“Many of my high net worth clients, especially business owners, are quite confident of their ability to get through these tough times, but they want to make sure their families will be well looked-after if they aren’t around,” he adds.

Finally, the market turmoil has enhanced the appeal of new entries such as guaranteed minimum withdrawal benefit products. “I personally had a lot of trouble marketing [them] because of increased costs. I’m finding ways to justify them today. People want that security,” Shaheen says.

While undertaking an outlook for 2009 seems risky, historical precedents provide a general guideline. Typically, after downturns, the increased emphasis on insurance lasts eighteen months to two years after the market turns around, Shaheen says. That piece of history may provide a broad framework for the 2010 outlook.