People appear hungry for good news about the economy and investment markets. While there are some positive signs, I believe it is too soon to be breaking out the party hats.

In the US this week, it was reported that US retail sales in June rose by US$1.3b, or 2.3%. However, if you take out a temporary rise in vehicle prices and a spike in the price of petrol, sales actually fell by $0.4b, or 0.2%.
China's top economic official has stated the economy is showing "positive changes" but the basis of a recovery is not stable and the country should prepare for long-term difficulties.

Our own Reserve Bank governor Alan Bollard has stated the worst may be over for the NZ economy but the recovery will be slow and may be unsustainable if it is driven too much by a resurgent housing market.
Teun Draaisma is a well-respected equity strategist at Morgan Stanley and well known for his sell call on the markets in June 2007. In a new report this week, he has upgraded his view on the share markets from poor to neutral but does not sound particularly bullish.

"We have less conviction than usual on the market direction outlook. None of the aspects that matter to us in deciding on market direction are giving us a clear steer, including... sentiment, valuations and fundamentals. We are keeping an open mind and are waiting for a stronger call.”

 He notes the consensus opinion by market experts has been consistently two months late this year. In March, most people talked about insufficient policy responses and Great Depression II. In May, they focused on the mountains of uninvested cash that were going to chase the market higher in the near term. And now the consensus view is that the market will be range bound and will trade sideways for the next few months.

In all these cases, the consensus proved to be an accurate description of the preceding two months, rather than a good forecast. In his view, markets are unlikely to trade sideways in a narrow range, especially when most expect them to do so (with a contrarian nature like that, he is a man after my own heart!).

Among the reasons for not turning outright bullish are uncertainties relating to US housing, corporate earnings, the European banking system, China growth and policy action.

"We would consider turning more positive if we get comfort that the trough in earnings and US house prices is getting closer. We would consider turning more bearish if rates go up by too much, if the growth outlook deteriorates, or if [indicators] give us an outright sell signal."

 So, what to do? Draaisma recommends what he calls "the middle ground" between growth and income shares, focusing on utilities, telecommunications and energy sectors.

In a likely environment of volatile inflation, higher taxes and slower economic growth, he favours companies with reliable earnings rather than high growth prospects. He also stresses that investors should focus on picking good shares within a market rather than following the market overall (for example through index funds).

He suggests investors look for opportunities among companies that have changed focus, management, or restructured their business.