There are two tragedies in life. One is to lose your
heart's desire. The other is to gain it. - George Bernard Shaw
Right in the middle of the wonderful soccer in the World Cup, comes this rather
inconvenient if perfectly logical market correction. I am not surprised, and
have been talking down risk assets for a while now, as regular readers would
know. Still, the soccer beckons once again; hence the rather short article this
week.
A whole bunch of reasons have been cited, none of which should
be any surprise to anyone except moronic Keynesians (pardon the tautology):
1. Worries in Europe continue with credit spreads of Greece and a bunch
of other countries moving to levels wider than before the European intervention
that supposedly "guaranteed" all debts.
2. Weak data from the United States (retail sales, consumer confidence),
China (exports, production) and other countries globally that highlight the
significant probability of a "double-dip" recession (you say that only if
anyone believed that the first "recovery" was real, which I certainly don’t).
3. Ongoing macroeconomic adjustments including austerity budgets from
various European countries (UK, Germany) and US states.
4. An interesting head-fake in the form of a "stress test" for European
banks that was seen as anything but;
5. The adjustment of the Chinese yuan, which many expect will push up
bond yields in the US and Europe over the near-term, further pressuring those
economies
6. Some casual brushes with the truth that authors may choose to regret
later on (viz, US Treasury Secretary Timothy Geithner - "US consumption can no
longer drive global growth"). Well, you don't say that to a bunch of nervous
stock investors holding technology shares at 100 times PE, Tim.
Still, it is still appropriate to examine expectations for future moves:
A. I don't think this correction is over. The best possible outcome is
that risk assets recover due to various short-term measures over the course of
July but swoon once again when macro data doesn't back up anything meaningful.
B. Sell Australia. In every way, the country's stock and currency
markets represent a call option on global, and particularly Asian growth. The
realization of poor prospects down the road will push these assets sharply down
over the second half of this year.
C. Sell emerging markets. The idea that emerging markets will somehow
avoid the contagion from weakening US and European data is completely bunkum.
All of the major markets – Brazil, Russia, India, China will continue to swoon,
albeit in different areas (for example, Chinese stocks may stabilize about 10%
from here, but property will likely fall further).
D. Sell industrial commodities. There is too much capacity in global
production, and way too much froth from extended credit (or available cash
balances) to correct the story quite yet. Ergo, production cuts will resume in
the second half driving down demand for industrial metals and commodities.
E. Sell government bonds. Current yields on longer-dated government
bonds are simply nonsensical for the level of credit risk entailed. If you must
hold these darn instruments, at least have the sense to hold short-term
instruments only.
F. Sell high-quality corporate credit. This is another bubble, driven by
Wall Street analysts calling for "corporates to outperform sovereigns".
Nonsense. Start by paring down positions in bank credit (senior bonds but more
importantly, subordinated or capital-like bonds), then sell the bonds of "high
quality" companies, so on down the chain.
G. Sell low-quality corporate credit. This is the most stupid bubble out
there - investors chasing higher yields in low-quality companies because
government bond yields have fallen so much. The decline in risk assets means
that these bonds will not repay principal in many cases. Sell now to avoid
further losses, especially as some silly investors still remain around.
H. Buy Switzerland, buy Singapore. New banking rules in Europe, the US
and UK mean that financial institutions will likely move shop - the two most
favorable destinations are Switzerland and Singapore. Then there all the new
income and profit taxes to consider globally. There are other advantages
including low capital gains taxes, easy regulatory / legal regimes that will
appeal to investors.
I. Buy gold. Self-explanatory.
So what do I like?
Examining the flotsam and jetsam of the current financial crisis, its important
for anyone with fresh capital to consider investing in precisely the areas that
have been neglected the most by the upsurge in government spending and/or
banking system largesse. This would be the class of entrepreneurs, small and
medium-sized enterprises and trade credit.
1. Many developed countries - the US, Canada, UK, Germany, France - have
an observed shortfall of capital for smaller companies. Pick the type of
businesses you know (eg your neighborhood plumber) and look at investment
opportunities. Its harder work than blindly following the idiotic advice of
Wall Street analysts or CNBC commentators, but is potentially much more
rewarding.
2. Pursue mass-market low technology manufacturers. Forget the Apples of
the world. In a recession, the cheapest manufacturers of essential products
will win. So look at manufacturers of such products globally.
3. Agriculture. Any benefits of the current swirl of global liquidity
would likely be seen first in soft commodities, ie foodstuffs, agricultural
products and the like. Freak weather phenomenon, disasters in various food
production areas (eg the Gulf of Mexico) all augur well for this sector.
4. Africa. Its been awhile coming, but my thoughts are heavily focused
on the opportunities in Africa now. Rather than the generic (and now
overwrought) emerging market story, Africa offers real advantages that play to
longer-term strengths for consumption and manufacturing. Admittedly, the World
Cup helped to egg me along in this line of thinking.
(Disclaimer: As most readers have figured out for themselves, acting on the
recommendations of well-known market pundits is perilous enough. From that
observation, it follows that acting on the ideas of a pseudonymous commentator
in an online publication isn't likely to be suitable for most people. Always
consult with trusted advisers, friends - or better yet, trust your common
sense).
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