Tuesday, June 3, 2014

Caution must be the word of the day

Recent events in Ukraine as well as the long term unresolved situation in Syria have been adding to a complex geopolitical environment that seems to set us back to Cold War times during which the "Western coalition" challenged the influence of the Soviet Union, nowadays Russia. Old memories but truly a completely new scenario thanks to the very assertive political role played by China in the far east.

Further, such events come at the back of a very unusual economic environment whereby we are witnessing the effects of unorthodox (!!!) fiscal policy making: Japan’s monetary policy, Fed’s claimed unwinding of their fiscal stimulus, the Euro ever present crisis and a US bullish stock market that seems to no longer relate to the REAL economy.

Therefore, regardless of our own personal opinions we ought to analyse these events and reconcile their potential effects with the economic decisions that we make today or that we plan to make tomorrow.

CAUTION is the word that comes to my mind when I reconcile geopolitical events in progress with economic indicators coming out of several G7 economies. And therefore CAUTION applies to smaller size economies like the UAE or the GULF that are much dependent on both commodities prices and transit of goods. The recent over-supscription of the Dubai IPO of Marka is a sign that ought to be evaluated carefully.

I would like to therefore motivate my CAUTION advice by pointing out some key facts from around the globe as it is often difficult to cut through the clout of main stream media and the hype generated by the new Dow Jones records. 

Following are therefore some of the sobering or better yet warning signs I collected and that I would like to share:

  • Japan: Abenomics shock economic therapy is generating concerning effects: the plunging yen has crushed the Japenese purchasing power in spite of the growth in the stock market may have given the illusion for someone to get richer. The recent 15% correction may make the illusion disappear, especially if the USD/JPY breaks below 102. At the end all that will be left for the Japanese people is a soaring energy bill and ever increasing food prices. Japanese wages have been falling for 22 straight months with a fall of 0.4% in March only. In the latest news, sony slashes profit outlook by 70% thanks to Abenomics.
  • China: the official Chinese PMI index misses expectations. As a correlated ripple effect: Australian PMI (greatly correlated to China) declined by more than 3 percentage points to its lowest point in nine months (6 consequent months of contraction);
  • USD: while the Dow Jones seems to continue its rally some of the fundamentals of the US economy don’t seem very rosy, signalling once again a strong decoupling between the stock market and the “real” economy. The below data doesn’t give us much confidence in US consumer spending and overall US demand.
    • Consumer spending for durable goods in the USA has dropped 3.23% since last November 2013. 
    • 20% of US families don’t have at least a family member employed;
    • While the US population has kept growing since 2007 there are approximately 1.3 million jobs less (http://economyincrisis.org/content/all-sign-point-to-a-servant-economy)
    • During the “recovery” period 2010-14 employment gains have taken place only in low-wage industries while during the recession employment losses took place mostly in high to mid wage industries (http://www.nelp.org/page/content/lowwagerecovery2014/
      • Lower-wage industries constituted 22 percent of recession losses, but 44 percent of recovery growth.
      • Mid-wage industries constituted 37 percent of recession losses, but only 26 percent of recovery growth.
      • Higher-wage industries constituted 41 percent of recession losses, and 30 percent of recovery growth.

    • 90% of the jobs in the USA pay an average of less than 35,000 USD per year (http://www.bls.gov/news.release/ocwage.nr0.htm?_ga=1.73666065.22471688.1396473081)
    • Ukraine: the instability is bound to generate a more rigid contraposition between Russia on one side and the USD & Europe on the other. While sanctions so far have been more formal than substantial the rhetoric is increasing on both sides and there may be instability pass onto the economic system increasing its volatility and impacting energy prices.
    • EU parliamentary elections: while the EU periphery keeps on evidencing clear signs of weakness (Italy, Greece, Spain, Portugal) new elections are looming. Word from the street is that parties against the EURO are gaining significant strength and are bound to acquire a sizeable stake in the new European parliament. If that turns into reality there may be some hard questions put on the plate of the European Union leadership and whether fundamental union regulations are to be readdressed.

Therefore, CAUTION must be the word of the day. In the post 2008 world we have accepted as systemic a much higher volatility index which makes it a bit more difficult to evaluate wider base economic and stock market swings. We just need to analyse the speeches of the heads of the Central Banks to realise that they are leaving for themselves wide arrays of options sometimes at odds with each other. Economic indicators are more difficult to read. In such an environment positions should be short, optimism measured and cash an invaluable asset to give investors the ability to ride with profits both the “bull" and perhaps the “bear" coming our way.