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NEW YORK MFS Investment Management is looking past Europe's chronic economic weakness and debt crisis, which it expects to continue for the next six to nine months, and turning its focus on Iran's nuclear ambition and its potential for disrupting oil markets.
"The No. 1 issue that keeps me up at night is Iran," James Swanson, who manages MFS' Diversified Income Fund with $885 million in assets, said in a conference call on Monday. "There is a direct link between sudden rises in energy and recessions."
Swanson's second nightmare is the U.S. fiscal cliff, or Congress' inaction on a deficit-reduction plan and tax code overhaul that it has managed to put off over the last two years as Democrats and Republicans have been unable to overcome deep divisions.
"I don't think they (Congress) want to be responsible for doing nothing on the scale of creating another recession, which is certainly what would happen if they didn't do anything," Swanson said.
After the November elections, a wave of fiscal issues will hit Congress, including the expiration of temporary tax cuts made under Presidents George W. Bush and Barack Obama, huge budget cuts ordered last year and what to do about various tax breaks.
Decisions on these and other questions will come at a time when the United States, struggling to grow out of a financial crisis and recession, has run federal budget deficits topping $1 trillion for three straight years and is on track for a fourth.
At the same time, protracted fiscal crises in Europe are casting a shadow over the sluggish U.S. economic recovery.
Europe, however, is in a shallow recession, though not as severe as 2008's, that could likely last two to three quarters, according to Swanson.
The biggest issue holding Europe's economy back, apart from the sovereign debt problem, is high unit labor cost and labor inefficiency.
There are 24.5 million people without jobs in the European Union, but those holding jobs are demanding fewer work hours per week, early retirement and an increase in the minimum wage. In addition, the tax wedge on labor - the amount in various taxes and fees employers must pay to employ a person - makes hiring expensive.
"Labor in Europe is immobile, expensive and isn't coming down. It's not repricing itself," Swanson said.
"None of the actions we are witnessing suggest a permanent solution to the European problem. To grow out of recession they need to be competitive and they are not," he added.
Swanson sees investment opportunities mostly in the United States, especially in the credit markets and large-cap companies. But he prefers to search for income outside the bond market.
"The dividend yield, bond yield and savings yield in the stock market are close to record highs; this would tend to induce investors to seek out yield as long as they are seeking cash flow growth and economic strength," he said, adding that dividend payers are in a better place in the long run.
Swanson also likes technology companies as U.S. corporations will have to freshen up their technology products.
"This sector is the largest percentage of the market cap of the stock market in the U.S. while commanding a lower price-earnings ratio than the market and exhibiting declining beta," Swanson said.
(Reporting By Manuela Badawy; Editing by Dan Grebler)