What a week!!

Posted on: February 8, 2010 in: Uncategorized with 0 comments

First, my apologies. Last week I said I would write about a couple of nuclear energy ETFs. Instead, falling markets dominated attention. I will get to the nuclear item later. The good news for archerETF at least is that we cut our equity exposure by half two weeks ago, selling all our India and LatAm holdings. We also overweighted bond ETFs and US dollars. Those decisions saved our clients about 6%.

In the markets, there was one piece of bad news after another.

The Greek sovereign debt default threat continued to worsen, hurting all its partners in the Euro-zone and periphery, but especially the weakest. Countries like Portugal, Hungary, Bulgaria, Serbia, all saw their soveriegn bonds drop in price as frightened investors fled. Ditto further afield in other emerging markets.

China and the US argued again. Over what?: A break-in at Google China; the US selling arms to Taiwan; President Obama wanting to meet with Tibet’s Dalai Lama; China putting duties on American chicken imports; the US putting duties on Chinese tires. (My sons enjoy a BBC series on Neanderthals in which a recurring scene has the upstart alpha male challenging the dominant alpha male for control and for the “hareeem of females” as my younger one naively says. Plus ça change…)

In China itself, real estate speculation has gotten so crazy that the government told banks to hike the rates on THIRD mortgages and to require bigger downpayments. The central Bank of China warned that home default rates will quintiple if home prices fall by 30%. Keep in mind that prices in places like Shanghai are 2 or 3 times what they were a year ago so a 30% correction would not be remarkable. Of course, this is just the Chinese-dubbed version of Hollywood’s 2008 thriller. We saw the ending of that and it was gruesome.

Toyota, that hallmark of reliability, fell, or rather, smashed into a brick wall because of a sticky gas pedal. (Thankfully, company president Akio Toyoda refrained from any bloodletting.) While it was a company-specific event, it seemed to capture the wider malaise. “If you can’t trust Toyota…!?”

Here are some key indicators….
US Unemployment dropped a bit in January but its still at 9.7%.

The Baltic Dry Shipping Index has fallen 40% since peaking in mid-November. (It tracks the cost of ocean-shipping dry goods – iron ore, coal, grains – so it often leads economic growth.)

And copper, another leading economic indicator, has fallen about 18% since peeking in mid-January. This is the biggest fall since the metal bottomed in February 2009, just ahead of the equities bottom in early-March 2009.

Putting the Pieces Together
We’re in the middle of a serious correction in equity prices. Global stock prices have already fallen 10 to 20% from recent peaks and rather than bouncing quickly back, they instead look ready to fall further. Whether we test the lows of March 2009, I don’t know. Holding cash and bonds is a good thing just now.

Looking further ahead, here are my thoughts. I’m not an economist so apply some scepticism to the following.

The global stock rally of 2009 was largely sustained by massive government spending, most of which is now dwindling. Will that sustenance return? Unlikely, though G-7 ministers meeting in Iqaluit insisted it would, after eating seal meat and beating their chests.

In the absence of demand, the danger is that we get caught between economic decline and inflation – in other words stagflation. I’d like to think that, given the lessons of Japan post-1990 and the US in the 1970’s, policy makers are experienced enough to avoid that, but I’ll reserve judgement.

The other scenario is that high commodity prices will fall with slower economic activity and that will tame inflation. Eventually natural demand – not stimulus spending – will return and economic growth will resume. What will kick start this, I’m not sure. Perhaps China could spend some of its stimulus money abroad. In really desperate places like Haiti or Detroit. (I’m not kidding – something like half the houses in Detroit are decrepit). That way it would avoid inflation at home, give employment to its millions of unemployed, and build incredible good-will – the “soft-power” – it will need if it really wants to be the dominant male.

Any commentary, thoughts on all this would be much appreciated, especially of the economist type.
All the best until next time.
Regards,
Vikash

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