Here we are in this most capricious of months. Popular wisdom has it that you should now sell and repair to the country. As if on cue, both the US and our domestic central bank issued calming noises, perhaps aiming at diverting the more superstitious of investors. But the turmoil that has assailed markets is far from over, even if the odd ray of sunshine has been peeking through.

Although the extent of the revaluation of all those complex financial products has blown some fairly large holes in banks' balance sheets, we seemed to have weathered the storm reasonably well. Of course, there is the worry that we do not know who owns the balance of these securitised loans that have caused the banks so much angst. If a fair proportion has ended up in the portfolios of pension funds and insurance companies, it could lead to a second wave of write downs. Hopefully this will not prove as serious as that which has assailed us so far.

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Certainly, the Governor of the Bank of England appears to believe the worst is now behind us. His main concern now seems to be that banks are becoming too risk averse and will, as a result, contribute to the slowdown in the domestic economy that is clearly under way through restricting lending. And is there a slowdown? Try employing a builder at present. You'll be knocked down in the rush. And the deals that can be done are not down to competition from our Polish friends. They've been returning home in droves.

So we know that, at best, we are experiencing below trend growth in this country and at worst a recession could set in. Thus far there are no signs of a real recession - negative growth, as the economic spin doctors would term it. Economic contraction, as I believe it should more properly be described. Discretionary spending may have hit the skids, but people are not in negative equity in their homes or losing their jobs. Even so, the Poles may be cutting and running just in time.

But markets are agreeing with the Bank Governor. As April drew to a close we were seeing more buoyant conditions. Having fallen to near 5400, the FTSE 100 Index greeted May Day in the environs of 6100 - a rise of 13%. Given that we were over 6700 last year, you get a feel for the extent of the shock the credit crunch generated for equities. And the rally extended into early May trading. Sell in May? Not yet, anyway.

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The $64,000 question is whether we should treat this as a suckers' rally and take advantage of it to bale out. At least one experienced fund manager of my acquaintance believes this to be the case. He has been investigating taking out an out-of-the-money put option on the FTSE 100. Will I be joining him? Despite my concern that the credit crunch still has some unpleasant tales to tell, my answer must be - not on this occasion.

Look at the action of the Fed and the words used by the Bank of England. They know that, unlike in 1929, all our futures are inextricably bound together in a continuation of a smoothly operating capitalist society. The central bankers will opt for inflation rather than recession. True, that makes life somewhat more difficult for Mervyn King, given his remit from the Chancellor, but perhaps Mr Brown will have to add to his humiliations by writing his own letter to the Governor, asking for economic wellbeing to take precedence, as it does in America. And inflation is good for financial assets. I rest my case.

Read last month's: Investment Commentary: Reasons to be cheerful?

14 May 2008 © Moneyextra.com

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