When things turn bad retail investors tend to quit the market for long periods.
One of the great hopes that helped buoy European share investing until recently was the so-called "equity culture" and the belief that it would eventually flourish. But this delicate flower, which started to bloom in the late 1990s, has suffered a nasty frost and is threatening to wither. The latest figures show retail investors are now net sellers of equities.
Serious worries were first voiced last autumn at the time of the closure of the Neuer Markt, Germany's market for high-technology stocks. Commentators said the German equity investor had "gone home for 10 years" or even "for a whole generation".
As in Germany, so across the rest of Europe. Retail investors, as Schroder Salomon Smith Barney says, "are essentially momentum investors". They come late to the market when the bargains have already gone, ride the momentum but typically stay too long, reluctantly selling at a loss. After the Wall Street crash in 1929 there was a whole generation that dismissed holding stocks as a bad idea. The Dow Jones Industrial Average took 25 years to recover.
European indices will not necessarily take 25 years to come back, but there is some way to go yet. The FTSE Eurotop index of the 300 biggest stocks peaked at 1,709 on September 5th, 2000. It is now barely half that, at about 875.
Figures from Europe's national associations for mutual funds show that although retail investors are still buying, purchases are mostly in ultra-safe money market funds. They are net sellers of equity and bond funds.
Mr Richard Davidson, European strategist at Morgan Stanley, sees some gloomy historical evidence from the experience of other regions. In the US in the eight years between 1974 and the end of 1981 there was only one month of net inflows to equity mutual funds. Meanwhile, in recession-hit Japan, assets in equity funds have fallen by 90 per cent over the last 12 years. When things turn bad retail investors quit for long periods.
Institutional investing is also likely to be hit as new accounting rules, due by 2005, force insurers to be more rigorous in the valuation of assets. This may lead them to reduce equity holdings further as they adopt more conservative methods of asset allocation.
However, Mr Davidson says in this downturn there is one positive, which is that short-term interest rates are low. They are in fact lower than dividend yields for the first time since 1967. "Equity culture is damaged, but I don't think the ship is sinking," he says.
Countries still show a wide variety in their appetite for equity culture. In France and Italy equities represent only 20 per cent of mutual funds, compared with 75 per cent in the UK. Germany is on between 35 per cent and 40 per cent.
But it is not just a matter of retail appetite. Rules on what pension funds can invest in have inhibited their growth in some countries more than others. In Germany, for instance, pension funds can invest only 30 per cent of their assets in equities or equity-related products. Two years ago there were high hopes that Germany would steadily embrace equity culture in a number of ways, such as by companies putting their high levels of long-term cross-holdings into the market. Although the tax disincentives were removed 12 months ago, the market downturn has scuppered activity. - (Financial Times Service)
