The market begins the month of August trying to prove that the Great Recession is over and the earnings recovery has begun. On Friday, US GDP data came out and seemed to confirm that just maybe the worst is behind us. According to the cryptic figures, US GDP is shrinking at annualised pace of just 1% – considerably less than the 6.4% from late last year.
Granted, private investment-the kind that drives job growth-was down 20.4%. But it was down 50% in the previous reporting period. Less bad is net better, no?
Here in Australia the Reserve Bank publishes notes on monetary policy later this week. The Aussie dollar is pricing in rising Aussie interest rates. And though those rising rates might peeve new home buyers a bit, the conventional wisdom says rising rates aren’t so bad, provided they are caused by renewed strength in the economy.
All this statistical hocus pocus belies the fact that there are still hundreds of billions (or trillions) in bad bank collateral still languishing on the balance sheets of banks. And in securitised form, this bad collateral putrefies in the accounts of pension funds, super annuation funds, local councils, and other institutions who are quietly hoping it improves.
And maybe it will! But we aren’t counting on it. In fact we still reckon a second wave of losses is due to hit the global financial system for a lower equilibrium can be reached. First more asset deflation, then monetary policy-induced inflation.
It’s one of the notes that came up several times in our highly-stimulating debt symposium Friday night here in Melbourne. There is a still a lot of debt deflating. This was the position argued persuasively by Dr. Steve Keen. Dr. Keen reckons the amount of bad debts in the system will weigh down asset prices, including stocks and residential property in Australia.
Right now, of course, there’s a bit of reflation trade going on. Oil is up. Stocks are up. Property is up. And even U.S. bonds moved up on Friday. However this reflation is not yet a monster hyper-inflation – the kind we fear comes when excess bank reserves move off the Fed balance sheet and into the real economy.
The inflationary position-the one where the global expansion in the monetary base leads to out of control consumer price inflation in Western economies-was taking up by Money Morning editor Kris Sayce. We tend to agree with Kris’ position. But the interesting mechanical challenge is how the expanded monetary base will translate into expanded money supply-something that hasn’t happened yet because banks haven’t resumed pre-crisis lending levels, leading many people to believe the crisis is over an inflation is not a threat.
By the way, the panel discussion lasted about an hour and twenty minutes. Obviously, it was a bit more detailed than we can get into here. But we hope to have a transcript ready later this week and will keep you posted. We thought it was a good discussion, although some readers had hoped there would be a clearer consensus on what exactly was happening and what exactly to do about it.
One panellist who was not concerned about the direction of interest rates or whether inflation or deflation was likely was Gabriel Andre. Perhaps our resident Frenchman was content with the 45% gain he’d just advised readers to take trading a base metals stock that has rallied over the last month.
But his point, to be fair, was that this is not a market for a fundamentalist position. Trader’s neutrality that observes only volume and price directions might be the most telling data. “The direction of currencies must always be looked at in pairs. Right now, the interest rate is the big driver for the Aussie dollar, not the growing deficits. But either way, it is a tradeable event. A weaker U.S. dollar is bullish for the commodities. However when the dollar rallies, the commodities complex weakens. Equity traders can take advantage of this, but with risks of course.”
One item on which there was consensus? Aussie house prices. Australia will not be the only housing market in the world to escape a significant correction, the panel concluded. When the fall will take place and how big it will be depend on other factors (interest rates, bank lending, government support).
That said, a contrarian might view the bearish consensus on the direction of house prices as a bullish signal. We’ll see. For now, the market is in definite bullish mood, until earnings or economic news contradict it. More on both tomorrow.
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