Amid an uncertain economic environment, high yielding equities appear to be an attractive option, writes Pat Ryan, manager of the Lazard Global Equity Income fund.

The rally in global equities was halted abruptly in the third quarter with stocks giving back nearly all of the gains of the past year in a matter of weeks.

The surprise downgrade of US government debt by S&P seemingly precipitated the sell-off, ironically triggering a sharp rally in the government securities whose creditworthiness was downgraded, while simultaneously driving stocks and commodities lower.

However, rather than the S&P downgrade, we feel the true source of equity market weakness was the signs of poor growth in the US and Chinese economies, the ongoing European sovereign debt crisis and the lack of confidence in politicians around the world to address the economic challenges.

Sterling, which in recent years had been moving with stocks, rallying when stocks were strong and thereby moderating the movements in global stocks, changed course and strengthened in the equity sell-off, which increased the losses for sterling-based investors.

Post-traumatic stress

While the global economic recovery is clearly faltering, whether this proves to be a double-dip recession or a mid cycle slowdown remains to be seen. Fortunately, mid-cycle slowdowns have historically been far more common than double dip recessions.

Investors continue to suffer from post traumatic stress disorder following the dramatic economic and capital market weakness of 2008 and tend to assume the worst when any signs of weakness emerge.

However, we feel that there are substantial differences between the current environment and that of late 2008 following the collapse of Lehman. Banks have significantly more capital and are also more liquid, funding their lending from deposits rather than less reliable external funding sources.

Managements have been very conservative and have maintained low inventories, so any decline in demand should trigger a smaller decline in production than in 2008. Corporate balance sheets are stronger, and companies are holding and generating more cash after aggressively cutting their cost bases.

In 2008, central banks had to scramble to set up structures to enhance liquidity following the collapse of the interbank lending market but those structures in many cases remain in place or can be reinstated promptly.

Finally, the collapse of Lehman and the ensuing dramatic decline in economic activity globally was a complete surprise to investors; in recent years, however, there has been a large and vocal contingent of forecasters predicting an extended period of weak growth and heightened uncertainty, as deleveraging weighs on developed markets.