The Bears Are Circling Again

Jul 19 2010

 

Ranga Chand’s Notes on the Global Economy & World Financial Markets – July 2010
 
The Bears Are Circling Again
 
Contrary to expectations, global equity markets are getting battered again as the roller coaster ride in stocks continues. After crashing in 2008 as the slump in the world economy deepened, stock markets, in anticipation of a global recovery in both developed and emerging economies, reversed course in 2009 and posted double-digit gains. And now that a global recovery is underway, markets have reversed course yet again and are heading back into bear market territory. It’s enough to give even the most seasoned investor a full-blown case of the jitters.
 
Stock Price Declines are Universal
As one can see from the performance of the various stock exchanges listed in Table 1, the decline is universal. Following the commonly accepted definition of a market correction (a drop of at least 10%) and a bear market (a drop of 20% or more), a quick headcount shows that 12 of the 19 markets are already in correction territory and three (China, Greece and Spain) are deep into a bear market.
 
TABLE 1
GLOBAL MSTOCK MARKETS HEADING INTO
BEAR MARKET TERRITORY
  Index Market Peak in 2010 % Delcine from Peak to June 30th
ADVANCED G-20 ECONOMIES      
Australia All Ordinaries 15 Apr -13.9%
Canada S7P/TSX 26 Apr -8.0%
France CAC 40 15 Apr -15.3%
Germany DAX 26 Apr -5.8%
Italy FTSE/MIB 8 Jan -18.9%
Japan Nikkei 225 5 Apr  -18.9%
South Korea Kospi 26 Apr  -3.1%
United Kingdom FTSE 100 15 Apr  -15.6%
United States DJIA 26 Apr  -12.8%
  S&P 500 23 Apr  -15.3%
  Nasdaq 23 Apr -16.6%
       
BRIC ECOMOMIES      
Brazil Bovespa 8 Apr  -15.1%
Russia Micex 15 Apr  -14.5%
India Sensex 30 7 Apr  -1.5%
China Shanghai Composite 5 Jan  -26.9%
       
PIGS ECONOMIES      
Portugal PSI General 8 Jan  -17.1%
Ireland Irish Overall 26 Apr  -17.7%
Greece FTSE/ASE 20 8 Jan  -43.9%
Sapin IBEX 35 6 Jan  -24.2%
Source:  Bloomberg; Chand Carmichael & Company Ltd.
 
Among the advanced G-20 economies, 8 of the 11 major exchanges posted double-digit losses from their respective 2010 highs. South Korea’s Kospi Index, with a loss of 3.1%, was the best performer while exchanges in Italy and Japan brought up the rear with each posting a decline of 18.9%. All the stock markets of the so-called PIGS economies have posted double-digit losses. The largest decline was recorded by Greece (-43.9%) followed by Spain (-24.2%), Ireland (-17.7%) and Portugal (-17.1%).
 
As for the BRIC economies, the Bombay Stock Exchange’s Sensex Index was the best performer, losing ‘only’ 1.5% from its high for the year in April. At the other extreme, China’s stock exchange has dropped by 26.9% from its January high. Indeed, the drop in the Shanghai Composite Index, when measured from its record high of 6092.06 reached on October 16, 2007 to its June 30, 2010 value of 2398.37 is truly an attention-grabber; the index is down a gut-wrenching 60.6%.
 
What’s Behind the Markets Latest Drop?
There are several reasons why markets have been tumbling around the world. In particular, a string of downbeat economic reports in the past few weeks have shaken investor confidence about the sustainability of the global recovery.
 
Among the major economies the latest information shows that the US economy is weakening. Job growth in the private sector is fading, the pace of manufacturing activity is slowing, the housing sector remains in the doldrums, and with nearly one out of five mortgage borrowers underwater, US consumers remain in a precarious state. In addition, credit conditions are still restrictive. Indeed, according to the Federal Reserve, bank lending continues to contract – it fell in April and May at an annualized rate of 7.75%.
 
Economic growth is also slowing in China which has, up until now, been a powerful driver of global growth. Moreover, there is growing concern that the country’s property market is in bubble territory and could start to deflate anytime now. Property prices fell 0.1% in June compared with May and it was the first monthly decline since February 2009.
 
In Europe, the sovereign debt crisis that is plaguing Greece, Spain, Portugal, and Italy has also alarmed investors. While there is general agreement that debt levels have to be reined in, the fear is that, with a recovery that is still very tenuous, the implementation of fiscal austerity measures in the big Eurozone economies of France and Germany as well as the United Kingdom is likely to squash growth in the region again and put the brakes on the global recovery.
 
G20 TorontoSummit Fails to Stabilize Markets
Any hopes that the June G20 Toronto meeting would help rescue the global economy also quickly evaporated. Although a deal to halve their respective deficits by 2013 and stabilize or reduce government debt-to-GDP ratios by 2016 was reached by the group, it was not binding and did nothing to stabilize financial markets.
 
Instead investors focused on the major policy split particularly between the US and the European Union concerning the speed with which to tackle budget deficits. The EU essentially favours big cuts now arguing that it will restore confidence in financial markets and spur growth. On the flip side, the opposing camp led by the US contends that economic stimulus measures are still needed in the short term to prevent the faltering recovery from stalling or even going into reverse.
 
With discord on the policy front, this has heightened investor fears that governments, instead of pointing the way forward, are completely baffled about how to solve the economic gloom that is again gripping the global economy. As investors gave the G20 communiqué a blanket thumbs down, markets resumed their decline.
 
More Stock Market Turmoil Lies Ahead
The global recovery is still a long way from being totally secure. Despite the sharp loosening of monetary policy by the major central banks, record low interest rates have not been able to lift demand in any meaningful way. On the contrary, business credit demand has been shrinking and there is growing evidence that the money supply is declining which usually is a sign of an impending slowdown in economic activity – certainly not a recovery. 
 
On the fiscal policy side, the sharp ramping up of government spending did manage to prevent a complete collapse of the global economy. Although growth has resumed in all the major advanced economies, it remains extremely fragile and is still dependent on the government sector. The trouble is that the hoped for revival of the private sector as the major contributor to the recovery has yet to materialize.
 
The fear is that tightening fiscal policy now will knock global demand and could well push a number of economies back into recession – the dreaded double-dip – and send the unemployment rate climbing again. Moreover, under such a scenario, tax revenues are likely to fall which would in turn push up deficits. Certainly, countries do need to bring their deficits under control, but too much austerity too soon could choke off a fragile recovery.
 
Bottom Line
As investor angst mounts and the bears tighten their grip on global equity markets, get ready for a market trajectory that is best characterized as one step up, two steps down. With the current policy discord and the heightened uncertainty about the sustainaibility of the recovery, it’s a given that equity markets will continue to be volatile in the coming months. But, all will not be downhill. Markets will also be punctuated by short-term technical rallies as investors jump on any ‘good news’ signs of recovery based on a single month's data flow.

Clearly, however, this is not a market for the faint-of-heart. Perhaps, Paul the Octopus, with his 100 percent record of calling all eight World Cup games, can be persuaded to use his multi-tentacled prowess and give us mere mortals a helping hand by picking the stock market winners of tomorrow.
 

© Copyright 2010 Chand Carmichael & Company Limited
 
About Ranga Chand
Ranga ChandRanga Chand is recognized both domestically and internationally as one of Canada's leading economists and mutual fund analysts. Professionally, he held senior positions with Canada's Department of Finance, then served as a director of the Conference Board of Canada, before joining a major stock brokerage firm. He has also taught economics at the University of Waterloo, published extensively in the field of economics, and represented Canada at numerous economic forums, including the OECD in Paris, the United Nations, and the World Institute of Economics in .
 
A media personality with a huge following, his popular television show "Talking Mutual Funds with Ranga Chand" aired weekly on Canada’s Report on Business Television (ROBTV) for three years from 2000 to 2003 and reached over 4.3 million viewers nationwide. Much in demand by organizations, industries, and associations throughout
  • Ranga Chand's Top 50 Mutual Funds
  • Ranga Chand's Getting Started with Mutual Funds
  • Best of the Best Mutual Funds, Featuring America's top 50 Heavy Hitter funds
Highly respected in the investment community, Ranga Chand is founder and President of the research and consulting firm Chand Carmichael & Company Limited, located in Ottawa, Ontario. 

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