Ted Truscott, chief investment officer of American Express Financial Advisors, talked yesterday about the Hawaii economy and the stock market.

Investment exec
sees hope in Japan

Ted Truscott seemed almost apologetic after giving Japan an uncharacteristic endorsement.

It's been 14 years, he acknowledged, since he's said something nice about that country's stock market or economy.

"Fourteen years," Truscott repeated again later in a voice just above a whisper.

But now Truscott, chief investment officer for American Express Financial Advisors, is a convert.

Among the reasons: Japanese consumers are spending again, the government is cleaning up the banking industry and tourists increasingly are returning to Hawaii.

"Japan is crawling out of its doldrums and I think that will have a positive influence, along with a weak dollar, on international investing," said Truscott, who was in Honolulu yesterday as part of a whirlwind trip that has him speaking to some of American Express' 110 financial advisers and 22,000 clients throughout Hawaii.

Truscott, who is responsible for more than $240 billion assets under management at American Express, said his company gave the tourism industry a little boost last week with a conference on Kauai that attracted about 200 American Express leaders and their spouses from six market groups around the country.

He likes what he sees about the state's economic rebound.

"I think Hawaii is probably ahead of where the rest of the U.S. is, but not every part of the U.S.," Truscott said. "There's some vigorous growth in parts of the U.S., but Hawaii probably will stay ahead because, of course, the Japanese economy has a big influence on Hawaii, tourism and other factors."

Like many other real estate followers, though, Truscott sounded the bubble warning.

"I think that real estate is overvalued in most parts of the U.S.," he said. "It's just not Hawaii. You look at cities like Los Angeles or Boston or New York and real estate prices have really gone sky high. I think that there are long-term factors and short-term factors influencing this."

One of the short-term factors, he said, is the 45-year-low interest rates. Truscott said among the long-term factors is the demographic shift going on in the country, with roughly 70 million Americans who will be retiring over the next 20 to 30 years searching for a second, or even, third home.

"What's happening is some of this activity is pushing up prices and will have a positive influence on prices over the long run," he said. "But in the short run, we think real estate is overvalued in a lot of places and that rising rates will have an impact on this and will probably cool the housing bubble."

Hawaii could be an exception, though, Truscott said. He offers South Florida as an example, where people from outside the United States -- particularly Latin America and Europe -- are snapping up properties.

"I think Hawaii is going to experience the same thing," he said, with Asian nationals buying Hawaii real estate and pushing up prices.

Truscott said that of two key issues weighing down U.S. markets, rising oil prices and the prospect for higher interest rates, oil is the one issue to fear most because it worsens the U.S. current account deficit (net borrowing from other countries) and because higher energy prices affect so much of Americans' everyday lives.

"It would not be out of the realm of possibility to see oil (which is hovering near $42 a barrel) get into the mid-$40s or the $50 range before this problem goes away," Truscott said. "Part of what is influencing the price of oil now is something that we have not really seen, and this is a vigorously growing China and vigorously growing India consuming more of the world's oil output."

As for interest rates, he doesn't see the Federal Open Market Committee acting at next month's meeting but rather raising the federal funds rate a quarter of a point at the August meeting.

"I'm in the camp that says it happens in August because June is too far away from an election," Truscott said. "I think there's some political savvyness that will go on here. We think the Fed rate increases, at least this year, are going to be probably more modest in size partly because the Fed is not convinced that core inflation is really that rampant at the moment. Also, a lot of that projected rate rise, particularly as reflected in the 10-year T-note, has really already happened."

The yield in the 10-year Treasury note has gone from a low of 3.65 percent to between 4.7 percent and 4.8 percent in the last six months. Truscott expects the 10-year note to reach 5 1/2 percent by the end of this year and perhaps 6 percent by the middle of 2005.

Truscott sees large-cap stocks outperforming small- and mid-cap stocks this year because the latter two equity classes had significant run-ups in 2003.

"Rate increases tend to have a more negative impact on small- and mid-cap stocks, which tend to lead the way in recovery," Truscott said. "That's what we had last year."

He said continued high oil prices make energy stocks like Exxon Mobil Corp. and ConocoPhillips among his favorites. He also likes exploration companies like Apache Corp. and Pogo Producing Co. In tech, he prefers Intel Corp. over Microsoft Corp. because Intel is more "leveraged to the next cycle of PC demands."

Among health care stocks, Truscott leans toward Pfizer Inc. among other large-cap companies.

For fixed income, the prospect of rising interest rates prompts Truscott to steer away from Treasuries and invest in corporate and high-yield bonds since he said the anticipation of rising rates has resulted in 10-year notes becoming overvalued at the moment.

"If a high-yield instrument is yielding 7 percent and you simply earn your income, that's not going to be a bad return necessarily for the risks you're taking in the coming year," he said.

Truscott is looking for a 5 percent to 7 percent return in the stock market this year, low single-digit returns in corporate and high-yield bonds and negative returns in the Treasury market overall.

"We think in 2005 the economy's going to grow at a reasonable rate and inflation probably will be in the 2 percent range," he said. "We see earnings growth continuing and we think that ... the earnings growth that some of these companies can generate is underestimated given all the cost cutting that's occurred over the last year or two."


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