Naturally, friends have been asking if I am bearish now as I have not been writing about the markets of late. Well, first of all, there's nothing much to write home about. Nothing much has changed, I have said most of what I wanted to say. While I am slightly bullish on emerging markets, there is very little impetus for buyers to move in until the big boys stop being so volatile.
Then some would say if this was going to be contained or localised, i.e. much of the hurt and pain being in Europe and the USA. To a large extent, that is true. While I think emerging markets may go a bit ballistic when the dust settles, it is also a scenario which we are likely to see an overbought situation, or rather a premium valuation in store. The danger lies in the inherent inflation within emerging markets. Owing to the very low interest rates in the US, Japan and Europe, the rest of the emerging markets cannot really hike their own rates without causing a stampede for their currencies.
China has already hiked theirs a few times and their markets have suffered. Will the same happen for emerging markets? Unlikely, because with the big boys in disarray, emerging markets will have to maintain their local engines of growth even if it means higher than usual inflationary pressures.
Big Picture Issues
a) Transfer of problems - It is pretty obvious that the subprime mess and other real estate related lending excesses hav been transferred largely from the major banks to their respective governments. Much of the problem is still there. Do governments write them off without needing to care? Not really, you have to pay somehow. You can attempt to rescue as many banks and financial institutions but the mess just gets transferred to a different party. Now we are seeing the problems at the sovereign debt level.
We wouldn't be having this crisis now if it wasn't for the subprime mess and excessive real estate lending. That was a mess because of many factors but largely because ratings firms such as Standard and Poors made unbelievably stupid mistakes, not once but throughout the last 5 years leading up to 2008. Now they have the audacity to say US ratings should be downgraded (albeit the rating should go down) ... but the gall of it all.
b) The global property scam - A massive transfer of income to the very rich has occurred while middle class real incomes stagnated. The middle classes only tolerated this because Central Bankers created housing booms to keep the impoverished middle classes borrowing and spending to give them the illusion of prosperity and stop them from revolting.
How do you do that? You do that by keeping interest rates very low, keep printing money, keep the system very liquid - some have gone to equities but by and large the biggest beneficiaries have been property markets throughout most of the world. Yes, you see obvious bubbles in Singapore, HK, parts of China, Canada, Australia and even certain places in Malaysia. We thank our lucky stars that our property markets did not go through the same correction as the major developed nations - but is that because we did not have a massive contraction in liquidity brought on by a financial scare?
How is this scam hurtful? Well, you propel property prices higher and higher with low interest rates and excess liquidity. It serves to fan the flames of property prices higher, causing a bull run for the prices, causing people to chase and get some action before its too late.
Its never a zero sum game. Much of the froth in pushing prices higher has to be in much much bigger mortgages that people are taking to participate in the run. As long as the public can pay down their mortgages, you won't see foreclosures or a major correction. You and I know that prices have basically gone out of reach of the young and working.
However we need a boom and bust to deflate this thing. The boom will come via stock markets, which is why I believe other emerging markets which have not seen similar troubles like the US, Japan and Europe will see liquidity being funnelled there. There is the boom and there will be the bust, which I expect towards 2H 2012.