Stock markets have become "dangerously obsessed" by takeover deals at a time when global profitability may be close to peaking, the chief investment officer of Resolution Asset Management warned yesterday. James Smith believes the fundamentals of stock performance are being ignored as efforts are focused on identifying the next bid target. Smith also questioned how much further profits can rise, arguing that an imminent short correction might be beneficial to markets' longer-term prospects.
He said: "The current situation reminds me of the UK market in 1986, when everyone had to own the next big takeover candidate. "Like then, the market is being led by the takeover theme. The question is: how much further can profits rise?
We've seen some economic slowdown in the US already - there is no guarantee that it won't get worse." Smith also voiced fears about the role of private equity firms in the clamour for takeover targets. He believes lenders' current "generosity' towards private equity, mainly through the award of "covenant-lite" loans, is a worrying trend, although he believes the potential problems could apply to all acquisitive firms.
Smith's comments came on a day which saw Saga and the AA announce a 6.2bn merger, creating one of the UK's biggest private-equity owned companies. He added: "Credit seems to be very cheap to the private equity firms.
The tail is wagging the dog. "One of the more concerning aspects is that it is not just the poorly-run firms which are being taken over - it is also the good firms with little scope for restructuring. You wonder where the private equity firms are going to squeeze the extra profits from.
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