Monday, October 12, 2009

Roubini's New Stance (I Mean Asserting His Old Stance)

This may have been a week old but now I am getting around to it. I didn't post/comment on it because Roubini said the same things. This time, he is sticking to his usual views but using it to reflect on the current stock market rally, saying that stocks have run ahead of fundamentals. My comments in colour.

Bloomberg: New York University Professor Nouriel Roubini, who accurately predicted the financial crisis, said stock and commodity markets may drop in coming months as the gradual pace of the economic recovery disappoints investors.

Markets have gone up too much, too soon, too fast,” Roubini said in an interview in Istanbul yesterday. “I see the risk of a correction, especially when the markets now realize that the recovery is not rapid and V-shaped, but more like U- shaped. That might be in the fourth quarter or the first quarter of next year.”

Stocks have surged around the world in the past six months as evidence mounts that the economy is emerging from its deepest recession since the 1930s. The S&P 500 has soared 51 percent from a 12-year low in March while Europe’s Dow Jones Stoxx 600 is up 48 percent. The euphoria contrasts with the cautious tone of Group of Seven policy makers, who said after their meeting in Istanbul yesterday that prospects for growth “remain fragile.”

“The real economy is barely recovering while markets are going this way,” Roubini said. If growth doesn’t rebound rapidly, “eventually markets are going to flatten out and correct to valuations that are justified. I see a growing gap between what markets are doing and the weaker real economic activities.”

‘Anemic’ Recovery

IMF predicts the global economy will expand 3.1 percent in 2010, led by growth in Asia, after a 1.1 percent contraction this year. That is still “anemic” and “very weak,” Roubini said.

U.S. stocks fell last week after manufacturing expanded less than anticipated and unemployment climbed to a 26-year high, fueling concern the economy is rebounding more slowly than forecast.

Gains in the S&P 500 have pushed valuations in the index to more than 19 times reported operating profits from the past year, data compiled by Bloomberg show. That’s near the most expensive level since 2004.

The performance of the U.S. economy is probably more sluggish than reflected in stock markets, risking a correction in equities, Nobel Prize-winning economist Michael Spence said last month. U.S. stock-market investors have “over processed” the stabilization of growth in the world’s largest economy, Spence said.

Creating Bubbles

The global equity rally has added about $20.1 trillion to the value of stocks worldwide since this year’s low on March 9. Governments have poured about $2 trillion of stimulus into the global economy while central banks have cut interest rates to close to zero in efforts to revive growth.

“In the short run we need monetary and fiscal stimulus to avoid another tipping point and to avoid deflation, but now this easy money has already started to create asset bubbles in equities, commodities, credit and emerging markets,” Roubini said. “For the sake of achieving growth stability again and avoiding deflation, we may be planting the seeds of the next cycle of financial instability.”

Comments: Yes, there is a gap between the stock market valuations and the real economy. Is the gap justified, its debatable, I think it is. To have a second dip in 4Q 2009 or 1Q 2010 would require probably another big bank to need a bailout or risk failing - Citigroup??... probably not likely. To have a second dip, we might have to see some major central banks tightening too soon... again that is not likely. Central banks are more concerned about jobs and corporate spending, and as long as these two factors do not show significant improvements, we are not going to see any rate hikes. So far only the robust Australian economy have started to hike rates. Norway might follow suit but not the rest.

In fact the longer it takes jobs and corporate spending to recover, the better it is for stock markets - its silly but true. That means low interest rates will prevail, thus forcing funds flow into equities. Yes, it is more likely that we will see an expensive equity markets situation globally over the next two quarters rather than a second major dip like Roubini predicted. Yes, I agree this will be the second bubble in the making if left unchecked, but I see things coming to a head only mid-2010, and even then we have to see how the employment improvement scene is like.

The other point for my views is the willingness of corporations to tap funds to do M&A. This is brought on with a corresponding downturn in risk aversion. Too many companies have been sitting around (on piles of cash) not doing anything for the past 10 months. We have seen a trickling of major M&A activity over the past two weeks and that should pick up steam. Each time a major M&A deal happens, it energises that sector and subsequently the overall market as well.

p/s photo: Angelababy Yang Wing

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