Exaggerated Double-dip fears haunt oversold equity markets

GLOBAL equity markets lurched sharply lower this week as fears mount that the US and Europe could be hit by a double-dip recession next year, accompanied by a sharp slowdown in Asia and other emerging markets.

Harvard University economics professor Martin Feldstein now thinks that there is a 50 per cent chance of recession in the US. But several top economists do not expect a full-blown recession in which the US and other major economies will struggle with negative growth. In current volatile markets it is dangerous to make predictions, but due to sales of exchange traded funds, flash trading and the like the good has fallen with the bad. Holiday trade has also been thin, except during the sell off of the past 48 hours. Those asset managers who are working in the August holidays are likely to seek out bargains. The most dangerous stocks are those in the mining, banking and real estate sectors because of the foolhardy quantitative easing programs of Professor Bernanke, chairman of the Federal Reserve Board and his central banker friends.

‘The US is already in the throes of a growth recession,’ said Brendan Brown, London-based chief economist of Mitsubishi UFJ Securities International. ‘Soaring US, German, French, British, Swiss and Japanese bond prices and weak equities indicate that the malaise is spreading to the global market.’

‘Growth recession’ is the term for a sharp slowdown, but where economic growth – albeit at lower levels – is still positive. Aggravating matters, high-priced energy and commodity prices have kept inflation at uncomfortable levels so that the ‘misery index’ of high unemployment and inflation, notably stagflation, is at uncomfortable levels in major developed and some developing nations.

Morgan Stanley forecasts that real growth of the Group of Ten (G-10) developed nations will decline from 2.9 per cent in 2010 to 1.9 per cent in 2011, and will recover slightly to 2.4 per cent in 2012. Inflation this year is projected at 2.7 per cent, up from 1.4 per cent in 2010.

Emerging market growth is expected to fall from 7.8 per cent in 2010 to 6.6 per cent in 2011 and rise marginally to 6.7 per cent in 2012. Asia ex-Japan growth is predicted to slip from 9.4 per cent in 2010 to 7.7 per cent in 2011 and rise slightly to 7.8 per cent in 2012.

Bernanke’s monetary magic unlikely to work

To counter an economic slide, the probability of the US Federal Reserve engaging in a QE3 – a third so-called quantitative easing of US Treasury bond buying to lower short, medium and long-term interest rates – is increasing.

QE1 and QE2 have failed to reduce unemployment because of “malinvestment”, notably misallocation of capital. Instead, they have weakened the US dollar and boosted dangerous speculative activity in China and other emerging markets, gold and other commodities and property in Asia and elsewhere. Markets may rally initially on any announcement but could then fall back as participants may well be sceptical about the success of any third phase, economists believe.

‘QE3, when it comes and in whatever plausible form, will be a damp squib,’ Mr Brown said.

Meanwhile, gold is trading at record levels, which is hurting the global jewellery industry as investors distrust currencies. The European Central Bank (ECB) has torn up its rule book and is supporting Greece, other stressed sovereign nations and broken banks, while the Bank of Japan (BOJ) has also announced more quantitative easing and dollar support operations to weaken the sky- high yen.

Why market participants are jittery

Market participants are worried because recent statistics show that global manufacturing is beginning to fall. From the US to Europe and Asia, purchasing managers reported that manufacturing activity in July grew at the most disturbing rate since nations struggled out of recession in the first quarter of 2009. New orders are contracting and fewer people are being employed.

A major risk to the global economy is an imploding bubble in China and bank dislocations from a potential real estate and commodities slump following excessive speculation in those areas, Mr Brown said.

China & India cliff hangers

John Mulcahy, head of research at Hong Kong- based AM Capital, an equities brokerage, contends that high leverage indicates that several banks and real estate companies in China are vulnerable. He believes, however, that the government will succeed in limiting any decline in overall growth to a 7 per cent annual rate, in line with its five-year plan.

Some regions and cities in the huge diverse nation are experiencing and will continue to experience wide growth discrepancies. Bottom line: China will do its utmost to employ the annual 20 million new school leavers and university graduates, Mr Mulcahy said.

The big question is whether this will prove to be a success. Several economists, including Gary Shilling, Brendan Brown and Bob Aliber have their doubts.

Morgan Stanley, meanwhile, warned that India is heading for the worst growth since the credit crisis. ‘India’s near-term growth outlook is deteriorating rapidly,’ the investment bank said. ‘We see a combination of factors – including persistently high inflation, a higher cost of capital, a cut in the ratio of fiscal spending to GDP, a weak global capital markets environment and a slow pace of investment – causing a further slowdown in growth.’

The bank also forecast a 30 per cent probability of recession in Australia and New Zealand partly because both nations have overvalued currencies.


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