Thursday, February 9, 2012

Here Comes 2012

Here we go again. Yet another “end of the world” call approaching. This time the Mayans predicted that 2012 is the end of time. I don’t blame you for being cynical having watched the biggest non-event of the century in 2000. Many new age groups, meetups, shamans, yogis, priests and clubs have sprung up around the world in an attempt to help the scared, part with some for their money. Whatever you may think of the Wall Street types, you know one thing, they are not going to be taken again, at least not so soon after having wasted billions in  preparing for 2000.

So while I do not believe the earth axis is about to reverse, causing massive floods and earthquakes ( a popular belief floating around the internet about 2012) I do see continuing problems in money matters everywhere in the world.

European problem is actually not as serious as you may think at first. Europe’s problems are no different than what we have faced and continue to face in other democracies like Canada and even US. Some regions are better off than other in our world too. For decades, eastern provinces like Newfoundland, PEI and New Brunswick relied on Ontario and Quebec and they in turn relied on Alberta when quick rise in energy prices completely dislocated the affluent regions. Similarly US central government has been bailing out poor states since confederation.

There is however something unique about Europe and that is not that they have a common currency now but that they are independent sovereign nations. In Canada too there were cries of “let the eastern b’s freeze in the dark” but be it for compassion or greedy behavior of the politicians to get votes, no body froze. Not too different from Germans wanting the Greeks to sail away on a leaky boat while the rich European countries use the barren white sands of Athens as playground for the rich. I say compassion will win the day again and after all the noise, Italians will still eat their Gelato and Spanish Paella will still be cooking in the big wok in Barcelona. Will there be many unemployed? Yes. Will the rich also have to take a haircut? You bet.

One important relationship to remember in all of this noise is that just because the poor get shafted by higher taxes, the rich will be spared. Or if the money managers take a bath on Greek bonds, the citizens are unaffected. Higher unemployment among the poor and the middle class means lower demand for all products which in turn hurts the rich shareholders and all suffer, more or less. Collapsing bond markets means that holders of such instruments, mainly institutional portfolios suffer which in turn means pension funds whose funds are with these managers have no money to pay out to the poor recipients.

It is this relationship that gives me the confidence that finding a solution is an incentive to all segments of the society and the world. This is why it is certainly of interest to the French and the Germans to see Europe through this crisis even if it means taking a haircut. Their disdain of the British position is quite understandable.

The major problem facing us is not the enormous debt faced by many nations but the solutions to these. If there is a lot of individual solutions without regard to your neighbour, the system could unravel leading to chaos and a financial catastrophe of the type we saw in 2008. This may culminate a more serious recession or even depression particularly if demand dries up to such an extent that China’s exports lie idle in their factories or on ships. I do not see such an event at this time as most in control realize this quite well.

If you believe in my best case of an eventual muddled answer to the global debt problem, the standard of living will go down in all segments; rich and poor, east and west or north and south. On a national basis it usually results in dropping currencies like Canada faced in the nineties.

To build an investment strategy based on this, one has to consider previous eras when economic turmoil including high debt levels destroyed economies like Canada, New Zealand, Indonesia, Thailand. We do have many examples of such events in the past which is another reason I feel confident, we will muddle through.

Innovation and technology have always come to the rescue when economies get bloated. During the last fiasco of the early nineties, it was the internet which not only created easy availability of pornography but incredible cost savings in conducting business all around the world. What used to take an army of accountants and clerks to accomplish is now being done by a laptop. No wonder, American productivity keeps rising, even now. And no wonder Canadian productivity stays in the dog house for decades; we still are predominantly diggers and lumberjack, business segments where technology is perhaps much more difficult to implement.

The good news is that technology stocks trade at decade low valuations. You can have pick of the litter in 2012. But if you just want to buy one technology stock for the next year, take IBM. Throughout the last decade, IBM has proved yet again its leadership by being well ahead of the pack. It was the first to realize that manufacturing PC’s is a losing battle when upstarts like Dell could come and eat their lunch and genius marketers like Steve Jobs could be far quicker in responding to the colour choice of consumers. Management of IBM just couldn’t see how they would ever come up with iPods and pink iMacs. The game of old technology had changed, it was not about gizmos but it was still about innovation, design and now about service. IBM made itself into an unmatched technology service company in the world with a huge distance from the next best. The others are now scrambling to unload their manufacturing and peripheries. Most will fail where IBM has succeeded.

While IBM is best known for its hardware, it has increasingly offered software and services covering nearly every aspect of business. This has helped IBM increase its margins over time and create a competitive advantage against other hardware companies such as Hewlett-Packard (NYSE: HPQ  ) , Dell (Nasdaq: DELL  ) , and Oracle (Nasdaq: ORCL  ) . IBM also has intense exposure to international markets, with nearly 70% of its revenue coming from outside this continent. And IBM has been steadily raising its dividend, now at 1.7%, which is still a payout of less than 25%. Barring any major sustained global downturn, you can expect your dividend to rise.

Things won’t stay the same in years to come. The question you have to ask is if it will be AMD or Cisco that will roll with the punches or IBM. More importantly who will be ahead of time and make the decision now about what is to come in the future. My bet is IBM has proved beyond doubt that it will be the one. It has provided a blueprint for success for all technology companies. In brief that strategy says you can no longer depend upon just technology innovation although that is paramount in an increasingly competitive world. What you must do is also innovate your business strategy. And that strategy not just for IBM but for the entire western economy including Europe is to offer design, research and consultation services. These are the fields where simply moving a plant to Thailand or Ireland will not make you win. This creates a new ball game where success is not measured by usual sales growth year over year but by profitability and even dividend income. You can see that happening with the likes of Intel and Microsoft but none has done it better than IBM.Here

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