Banking on a return in confidence

Ted Scott, manager of the top performing F&C UK Growth & Income Fund and the ethical Stewardship Growth and Income funds, comments on the outlook for banks given the extraordinary move by the Chancellor last night to restore confidence:

"Last night's move by the Chancellor to guarantee the deposits of Northern Rock customers has bought overnight stability to the banking sector, with a rally in Northern Rock's shares as well as elsewhere in the sector today. After a 33% fall yesterday, Alliance & Leicester's share price has rebounded by some 27% today. Looking ahead the question is, will confidence return to levels at which savers stop withdrawing their money from the banks?

"In my view, although the problems at Northern Rock caused panic selling across the banking sector, it is important to understand that the company operates a very different funding structure to most other mortgage lenders and banks, with the majority of its borrowings originating in the wholesale money markets. When the lending rate in these markets spiked up, it was only a matter of time before Northern Rock ran into trouble. I believe Northern Rock will struggle to restore confidence in its depositors and investors, and for investors at least, the best solution would be a takeover by a third party.

"The Stewardship Growth and Stewardship Income funds had a small holding in Northern Rock. Here we are reducing our holdings to build on our position in Alliance & Leicester, where we believe the excessive falls have been unjustified.

"In the F&C Growth & Income Fund, which has a broader investment universe, we hold HBOS, Barclays and Lloyds. With a much broader business base and limited exposure to the wholesale money markets, these as well as other banks are much more resilient to the rise in inter-bank lending rates and the associated credit squeeze.

"Nevertheless, we have been underweight the banking sector across all three funds for some time and this is unlikely to change over the near term.

The larger question going forward is whether there is a contagion effect to the wider economy. If the credit squeeze persists, corporates as well as individuals will be unable to borrow which in turn will lead to a reduction in spending and investment, with wider ramifications for the economy. Together with a slowing housing market I believe the risk to the UK economy is on the downside but a recession is still unlikely."