Sir Donald Tsang Yam-Kuen, the current chief executive and president of the executive council of Hong Kong and the head of the government of the Hong Kong Special Administrative Region since July 1, 1997, made a comment at the World Economic Forum in Davos, Switzerland, that keeps me wondering about where we could go from here.
“I have been in public service, most of which involved public finance, for over four decades. Let me share with you: I have never been as scared as now about the world.”
At the same forum, Robert Zoellick, president of the World Bank said: “There's a danger, because there's weariness, a fatigue that's starting to run into the political system. At the same time, people are scared, there's anxiety, there's joblessness. And you can start to see the creeping populism, home country bias, a sense of separation from the system.”
I don’t think it’s an overstatement to say we are in a kind of fragile “social” moment in Europe where, despite even another EU summit, the leadership remains in a state of denial of the real problems.
For example, look at the really frightening youth unemployment numbers:
• Spain 48.7 percent;
• Greece 47 percent;
• Portugal 30.8 percent;
• Italy 31 percent;
• Ireland 29 percent;
• France 23.8 percent;
• United Kingdom 22.3 percent.
However, Germany is at 7.8 percent.
Around the world, there is a need for the creation of 600 million jobs in the next 10 years.
No wonder there is some kind of global mood of unrest.
I’d like to say there is no reason yet for the long-term investor for getting optimistic any time soon, but that’s of course everybody’s own choice.
Unfortunately, if all that wasn’t enough, there is also a crisis in traditional power and leadership, both at the national level and international level.
I have no doubt that the situation in Europe will still have to get worse before it gets better.
I’m also afraid the ECB won’t become the lender of last resort until they will be absolutely forced into it by the markets (but that remains nevertheless a huge question mark). This is crucial for investors to understand as the ECB isn’t mandated and allowed to act like the Fed.
While I think Greece and Portugal are on the way to default, Italy has way too much debt and an uncompetitive economy. Spain had a real estate bubble that was even worse than the U.S. where real estate prices could easily drop another 20 percent to 30 percent from where they are today.
This will add more stress to the Spanish banking system and several banks will have to be nationalized while its sovereign debt burden will turn out to be greater than it already is.
I’m convinced that both Italy and Spain are caught up in a deflationary process that will exacerbate the crisis in Europe. With exception of Germany, practically all other eurozone economies are stuck with a 30 percent overvalued “single” currency and high real interest rates. Under these conditions, it will be impossible to generate growth. Without growth, there will be no sustainable solution to the EU crisis. You don’t have to be a rocket scientist to see that austerity will make it even worse.
My big question remains how long will this situation continue and how long will the people tolerate this ongoing downward spiral, or, when will they finally revolt and force their governments to revise the eurozone structure.
Another blip on my radar is the Baltic Dry Index, which provides an assessment of the price of moving the major raw materials by sea and covers a very wide range of commodities including coal, iron ore and grain, which in October 2011 still quoted above $2,100 fell to $680 Tuesday in London, or a loss of more than two-thirds in about three months and only a few points above its absolute low in 2008.
Again, as when in 2008 when prices collapsed from above $11,000 in May 2008 to $663 in December 2008, we hear that there is too much capacity available and of course not enough demand.
The real cause is quite simple.
As already indicated by the World Bank and the IMF earlier this month, the world economical indicators are slowing significantly if not close to stagnating and even worse.
For investors, it should be clear the global economic slowdown will continue for some time, which could result in a further reduction of commodity prices.
As nothing is indicating to the contrary, China will continue to slow mostly because construction in China will slow as sales of real estate are substantially less than production and substantial oversupply will continue.
Oil is a bit of a different animal as it also has substantial political influence, particularly from events in the Middle East. Keep in mind that an oil (Brent crude) price at over $110 per barrel will hurt everyone everywhere.
Finally, the United States will (unfortunately) have to face serious risks coming from a carload of troubles in Europe and a slowdown in China that suggest the United States is still at risk, but that’s still not a sure thing (fortunately), of another recession.
Anyway, last week the Fed made it clear it isn’t still convinced of a sustainable recovery by making public its disposition to another round of monetary easing, whatever that might be and if needed of course. It’s a fact U.S. growth is still lingering at stall speed, consumers are tapped out, employment remains stagnant, and businesses remain wary of making commitments, which is understandable.
I want to underline the fact that the latest U.S. overall real GDP growth now stands at an average of 2.4 percent in the current recovery, which is still about half the historical average of 4.7 percent.
The largest missing block of the economy is consumer spending on services, with the shortfall spread out among a number of sub-components that are housing and utilities, healthcare, financial services, and transportation. Slow employment growth and household formation are behind the sluggishness.
Consumer spending in December came in at flat after edging up 0.1 percent in November. Weakness was in both durables and nondurables. Year-over-year consumer spending slowed to 3.9 percent from 4.3 percent from the month before.
My preference from a long-term investor standpoint remains to keep a very defensive position and wait until the headlines can’t become any worse before considering buying. Consequently, I believe as “safe” the qualified government bond markets, which includes the U.S. Treasurys and German “bunds.”
On gold, I’d like to say that after it has had its first correction I still expect a second correction might follow if the deflationary forces get stronger, as I expect. Thereafter, I expect gold to continue going higher to levels we haven’t seen yet, in first place due to the ongoing debasement of the major currencies.
I’m still expecting buying opportunities for equities as well as selected commodities sometime in the second half of this year or even later.
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