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Economy to be jittery, Fifth Third strategist says

October 12, 2007
The U.S. economy probably has avoided the likelihood it will slip into recession, a Fifth Third Bank strategist said today. But in 2008, investors face an uncertain environment where the fastest action will be found overseas.

"In general, the fears of recession have now diminished," Chief Investment Strategist John Augustine said this morning. "[But] it's going to be a jittery year."

Augustine gave that prediction at IBJ's 2008 Economic Forecast breakfast at the Marriott Hotel downtown. Co-sponsored by Fifth Third, it was the 10th time IBJ has hosted the annual event.

Based in Cincinnati, Augustine is a chartered financial analyst who helps oversee more than $20 billion in assets under Fifth Third management; he has 19 years of experience managing portfolios. Augustine emphasized the uncertainty surrounding two major factors that will shape next year's economy: the 2008 elections and the Federal Reserve's policy plans for interest rates.

Augustine said it's too soon to guess how any particular presidential candidate-or even their parties-would influence the economy's direction, since their platforms are still taking shape. For investors, the renewal of expiring tax rates on dividends and capital gains are perhaps the most important factors at stake.

Augustine noted that only four times since World War II have presidents suffered approval ratings as low as George W. Bush's current polls show. Each time, he said, voters responded in the next election by choosing a candidate perceived as older and wiser, which could bode well for Republicans Rudy Giuliani or Fred Thompson. But Democrats will have to bolster Hillary Clinton's polarizing image.

Augustine predicted the Fed will continue its efforts to lower interest rates through the first part of next year until the threat of recession is gone. After that, Augustine said, the Fed may reverse its policy and begin hiking rates again.

Several other global factors will shape markets in 2008, including the dollar's declining value, the high price of oil and the Beijing Olympics, Augustine said.

Augustine expects the dollar to stabilize because the U.S. remains the world's largest consumer market. Consumers are responsible for 70 percent of U.S. economic activity-and a whopping 22 percent of all economic activity on the planet. Foreign governments, investors and firms cannot afford to allow the dollar to freefall forever, Augustine said.

There's an upshot to the dollar's relatively low value against other currencies, Augustine said: It makes foreign investment in U.S. opportunities and the purchase of domestic products more attractive. He particularly noted the influx of Canadian investment in U.S. railroads and banks.

"They can essentially buy our assets on sale," he said. "It makes us feel uncomfortable, but it is an important stabilizer."

Augustine said the price of oil may have permanently stabilized around $80 per barrel, and noted the high price of most commodities. But he said the risk of price inflation for the most part has been offset by declining prices of major durable goods, such as flat-screen televisions.

As for China, Augustine expects it to continue growing at a blistering pace - perhaps as much as a 10-percent clip or more, which would be the fastest growth in the world. Developed nations will see only modest growth, likely in the 2-percent range, he said. But after the Summer Olympics are finished, Augustine said, investors may turn their attention to other emerging markets, such as Turkey, South Africa and the Middle East.

Some 2007 trends will hang around. The U.S. economy will work through aftershocks of the subprime mortgage crisis, Augustine said. It likely will take four years for the current 10-month surplus of U.S. housing stock to return to historically normal levels.

"We would suggest it's going to be a methodical thawing, based on history," he said. "Put another way, it's still going to be a buyer's market."
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