01 September 2020

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Savers: seven suggestions for reflection

Author: Luigi Campopiano

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1. In the light of the fact that the 9 trillion euro of Italian savings are more than 90 % invested in Italy in euros, it is a good idea to expand the scope of investments to other markets that should be less affected by the manufacturing and commercial crisis.  A geographical diversification is necessary, but also a diversification of currency, increasing the share in dollars. Dollars are considered a safe haven in times of trouble and unfortunately most Italian savings are in euros or in real estate that is also denominated in euros. Another opening must also be in the lengthening of the time horizon in which to examine the returns of one’s investments. Not monthly, not annually, but multi annual. The economic consequences of Covid-19 are likely to last longer than the biological contagion. Behind the biological contagion follows a psychological contagion, then a n economic contagion, all of which affect markets.

2. The fear of capital losses and of unforeseen events has induced Italian savers to keep 1,500 bn € of liquidity and another € 500 bn in short term paper. These investments do not even compensate inflation. This period presents a great opportunity to diversify both in space and time moving to investments with higher returns than cash or short term paper. It could also be worthwhile to disinvest from real estate that is not immediately useful to the family nucleus or considered the mainstay of family safe savings. One has to get out of the cycle of personal fear, and the spread of fears to generalized panic. Even in the worst case scenario for post Covid, that may not necessarily take place, we are confident that the S&P500 will have positive trend as has had in the past.

3. Weakness of certain state services like health, and the lack of sufficient investments in technology could determine a long wave of reduction in wealth in the future. It is also time to reflect of the generational handover as future generations will be less likely to amass wealth. This knowledge should accelerate the restructuring of portfolios as indicated above. In the future taxes on investments and inheritance will probably rise as Italy has to make space for further debt and needs the approval of other countries, where taxes are higher, especially Northern Europe. Attention: the level of taxation in Italy is bound to increase as it has done in countries like UK that traditionally have a less statist approach.

4. We have to get fear of the future under control as it has increased with the coronavirus fear, to understand that this high level of fear is like a form of self-destructive behaviour, that stops you from taking advantage of the risk premium on shares by diversifying in time and location.  To be able to take a long term view, and try to forecast the future on the basis of the past, we must remember that in many areas, like the weather or sports results, it is easier to make accurate short term predictions rather than long term ones. As far as financial markets are concerned the contrary occurs: the risk premium that favours shares that are considered riskier than other financial instruments, manifests its positive aspects only in the long term. We have to understand how the risk premium and the fear circuit work, attempting to undo fear with hope (exactly what an advisor should do). It is necessary to remember the peculiarity of stock market forecasts that are more uncertain short-term than long-term. This leads to the advice to expand the time window because “Time” allows the “Truth” to emerge. Also we have to remember the so called “spring effect”. Markets always anticipate economic recoveries by a few months, as soon as there are latent signs the crisis is ending.

5. Italians tend to be liquid for three basic motives: they are very risk averse, they do not understand that long-term forecasts are more trustworthy than shorter term ones and they fear sudden adverse events and so maintain their assets liquid rather than get insurance. All these three prejudices must be dismantled through confidence, recovering the circuit of hope, the explanation of how long term forecasts work and how to take out insurance against unforeseen events and major fears (life, health, house, goods and chattels). The steep decline in markets is a great opportunity as shares will bounce back like a spring that has been unnaturally compressed. The S&P500 moves like a spring that is compressed then expands, and does not grow in a linear way because the risk premium is a subjective variable and not an objective one and swings between optimism and pessimism.

6. This is a great occasion to restructure the whole make-up of our portfolio, perhaps even the part locked up in real estate, of which future generations may have less interest than preceding generations who were mainly concerned with becoming homeowners. Yields on property will remain low due to greater poverty, high taxes, or perception of high taxes, few children and brain drain emigration abroad of the more talented youth in search for better opportunities. Over time real estate prices in Italy not only have not risen since 1995, but it is likely that the post-virus the negative trend of the past quarter of a century will persist.

7. Proceed gradually with the first six suggestions so as not to create anxiety doubts or perplexities, but also not too slowly. It’s a bit a first come first served scenario.  In the post virus era the trend of seeking safety in fixed rate investments (bonds) may accelerate. However, with respect to 30 year government bond yields in USA, the S&P remains more convenient. With the exception of 2001, the stock markets have always bounced back as soon as the first signs of an end to the crisis appears.

Conclusions: get out of the “Prudence / Improvidence” circuit. When considering investments excessive prudence, that results in high cash holdings or low interest short term placements, or money locked up in very low yielding real estate, has resulted in improvidence. This reasoning applies to individual investors, but alas also to the country as a whole.