History & Stock Markets
We Are At Crossroads

Now that most equity markets are near or just surpassed their all time highs, most investors are loathed to put forward their opinions on the near future direction of equity markets. Most had been wrong for the past 6 months as they expected markets to be weakened by the high oil prices and the mess in Iraq.

As mentioned before, I am still bullish on equities globally, in particular on markets where their currencies are still deemed undervalued. That's because growth in earnings will be there, but equally as important is the inflationary aspect. The more undervalued your currency is, the better it is to withstand imported inflation by rising in value and yet not hurt your export competitiveness much.

While we are standing by and watching equity markets at highs, there has been a general wave of increase in almost all asset classes. Commodities did their thing over the past 24 months, and even with the correction, the prices are still relatively high. The other notable class of asset which rose enormously is real estate. Especially at centers of financial money making. Has anyone try to buy an apartment in London or New York, and just look at the up-upper class property launches in Singapore over the last 6 months - you'd think that the top 10% popoulation in Singapore earns S$500,000 minimum a year!! The St Regis Residences developed by City Developments sold at S$3,030psf or RM7,086psf (or US$1,970psf or HK$14,770psf). Surprisingly, real estate prices did not rise by that much in HK or Japan... yet.

They point to a lot more liquidity swishing around. Despite in rate increases over the last 2 years in the US, there is still ample liquidity in the system. China has plenty of cash and so too does the oil producers. When painting by Klimt can go for US$137 million, when money chases after ugly art, something is not quite right. However, this time around, most equity markets are still not at excessive valuations. As far as I can see, I can only be wary of one possible time bomb in all asset classes, and that is the over-exuberant valuations of Chinese banks. There is still a lot of shitty stuff in the provisions and those items not classified as NPLs yet, and the new loans growth should be viewed suspiciously as the risk inherent in most of the loans are tied to the excessive property prices in Chinese markets. One can just imagine the dominoes thingee... and no one seems to want to write anything bad about Chinese banks or the over-glorifying-performances by all parties involved in IPOs.

For the last 2 years, most central bankers would promote easy money on fears that higher oil and comoodity prices might choke off growth or even result in depressed economies in their own sphere - that fear is largely gone now. So, the way forward is to see if central bankers will be tightening soon. However, most of the world looks to the Federal Reserve for direction. And, surprise, surprise, we just went past the mid-term elections, which means we are in the final two years of a presidential term. Believe it or not, since 1923 there were 23 mid-term elections and for the next 15 months, 21 out of 23 times the equity markets were up. They were up by an average of 23%.

I don't know about you but 21 out of 23 times is a pretty good strike rate. That's an incredible 91% strike rate. One can even explain it as the final two years of a presidential term tend to see markets performing better because deliberate policies and things tend to converege and happen more often. In fact the only two times out of the 23 when the markets were negative were in 1938 and 1948-49, no need to elaborate further I guess.

What the historical data confirms is that while we have strong surges in asset prices, and liquidity is ample, chances are the Fed would still maintain a relatively easy money period owing to fact that we are moving into the last 2 years of the presidential term. Plus the sharply lower housing starts in the most recent US figures would at least delay any raising of rates till at least March-June 2007, if there should be one. One final comment, the fact that Paulson is there at the White House would ensure a very positive global trade/biz relations with China, Japan and the rest of the world - in fact, I expect him to revamp the Sarbanes-Oxley thingee to the betterment of the US markets very soon as well.... and that can't be a bad thing.

Hard to believe, but most equity markets should have a clear road ahead, till March 2007 at least. Over and out.