Market view:Despite the scale of this week's sell-off, undervalued Irish shares will rise again, writes Pramit Ghose
Having recently spent a week in the United States visiting some 25 companies, I can understand the doom and gloom engulfing global stock markets.
Normally optimistic US companies are worried about a significant slowdown next year, as the banking and housing crises spill on to main street America.
The banking crisis is serious. Good quality credit is being marked down with lesser quality credit, and the US banks are forced to absorb these debt instruments and take writedowns, tying up vital capital.
This painful period is likely to last several quarters; the good thing is that the banks are now coming clean about their holdings.
The Irish stock market has suffered from the spillover from the US to Europe of this banking crisis, as the availability and cost of interbank funding has tightened sharply. Allied to a weak housing market, the short sellers have had a field day, causing (as of last night) the third worst year since the Irish stock market commenced in 1782. Only 1974 (-47 per cent) and 1826 (-37 per cent) were worse.
It seems incredible that the ISEQ is down some 30 per cent in 2007 so far, while the Dow is up 3 per cent and the FTSE 100 flat. Can things in Ireland really be that bad?
Reality hurts - we have to assume some slowdown in 2008 Irish earnings as the economy slows - but today's valuation of Irish banks at roughly five to six times next year's earnings assume a major and prolonged recession is imminent. The last year that we had negative GDP growth was 1983, when unemployment and inflation boasted double digit numbers.
Bargain basement valuations matter little when there are more sellers than buyers. Market participants are scared by the scale and speed of the sell-off in Ireland, particularly this month, and are reluctant to purchase more Irish shares. What will turn things around?
Maybe a takeover bid for one of our larger companies - they are vulnerable at today's valuation levels. Maybe, as we expect, rate cuts from the Bank of England and the European Central Bank (ECB) next spring (or earlier), as a global recession threatens. Or maybe, simply, the short-sellers bank their profits from the ISEQ, and move on to a new game.
On any sane probability curve, the risk of not making money on Irish shares at today's level is small; we just don't know how long it will take or how much more downside there is, and thus advocate a staggered investment strategy over the next few months. We will, however, look back in a couple of years' time and wonder why we were so reluctant to buy Irish shares today!
Pramit Ghose is managing partner at Bloxham Stockbrokers
