An article in the New York Times says that another blow to the US economy is about to come in the form of reduced state and city government spending for the coming fiscal year beginning July 1st 2008. Apparently, state and city spending makes up $1.8 trillion in the $14 trillion US economy, and they have not reduced their level of spending in the past fiscal year because tax receipts were healthy back in 2007, but in the past year, tax receipts have significantly dropped and every state and city government has cut back on spending in the coming year. With falling house prices and high oil prices, I’m not sure if the economy can sustain yet another blow.
This prompted me to think about investment strategies in a weakening US economy. Traditionally, one would retrench to defensive sectors like healthcare, staples and utilities. However, with the spiraling healthcare costs almost sure to provoke some kind of regulation, I find the healthcare sector too uncertain to invest in for now. Also, unlike previous recessions which were induced by short-term supply or demand shocks, this particular recession appears to be a secular one characterized by a what is probably going to be a long-term supply constraint of all major commodities, and would require the US consumer to adjust to a lower consumption of these commodities. Already, the oil refineries are losing money because they had been unable to pass on the price increases of crude oil in full to the consumer (see another NYT article to this effect). I think that in this climate, people may in fact reduce their consumption of electricity and gas, and so utilities is not such a sure bet either.
The sectors that I am optimistic about are international, technology, agricultural and commodity stocks. By international stocks, I don’t mean the companies that concentrate in the high growth economies of China and India (these economies are likely to slow in the near future from reduced US demand for their exports) but rather the truly international ones with a footprint in many countries, including European countries (which are better adapted to high oil prices). Companies that satisfy this criteria include McDonalds, Coca-Cola, Pepsi, and increasingly, Dell and Walmart. Also, the US has always led the world in computer technology, and still retains a very strong first-mover advantage, with all the most important hardware (Intel), software (Microsoft), and internet companies (Google) based here. The weakening US dollar is likely to bolster this sector where the US holds important advantages (though if the US government doesn’t loosen immigration laws soon, the US may squander that advantage). Lastly, the agricultural and commodity companies will finally see increasing profitability in the supply-constrained global economy.
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