A year ago there were plenty of things to worry investors, but given the rebound and obvious improvement in the various economies, there should be fewer concerns.
But investors still worry about the economies and fears of a double dip recession in the global economy; high private and public sector debt in key countries; policy tightening; a resurgent $US; and a possible China collapse among them.
The AMP’s chief economist, Dr Shane Oliver says that fortunately, most of these are not as worrying as they appear.
He says that it is actually a sign of a healthy market when there is still so much scepticism and fear around.
It indicates there are still plenty of buyers sitting on the sidelines that will help push share markets higher over time.
It is in the nature of humans to worry about what may go wrong. Maybe it has something to do with our evolution in the Pleistocene era when the trick was to avoid being attacked by a woolly mammoth or sabre toothed tiger.
In relation to this it is frequently said that shares climb a “wall of worry”, in that when shares are rising it is often when there seems to be lots to worry about.
The logic is simple – if everyone is worried then it is quiet easy for events to unfold better than feared.
This note looks at the current list of worries doing the rounds – why some may not be worth worrying about and why others are worth keeping an eye on.
Addressing the main worries in turn:
“The US/global economic recovery is not self sustaining & will double dip once the stimulus is over”
A double dip back into recession would be bad news.
This is less of a direct issue in Australia and Asia where employment growth has recovered underpinning private sector spending and so re-starting the flywheel of demand growth.
However, the risk cannot be ignored in most advanced countries. In the case of the US, the housing sector has yet to start recovering and we may see more house price declines and employment is yet to improve.
However, worries about a double dip are common during the very early stages of recoveries when the recovery is yet to fully find its legs and the fear is that “once the policy stimulus wears off growth will collapse anew”.
More fundamentally though, there are signs that the US recovery is on its way to becoming self sustaining.
Retail sales in the US have picked up and more significantly a range of forward looking indicators suggest that US employment will soon start to grow again.
Thanks to strong productivity growth and a rebound in profits, US companies are now generating record cash flows and if history is any guide this will show up partly as higher capital spending and employment.
If this is the case, as seems likely, then it will support future consumer spending and take over from stimulus measures in driving the recovery going forward.
Some have raised concerns that leading economic indicators are showing signs of rolling over.
But short of them rising to infinity this is inevitable.
Overall we would see the risk of a global double dip as being low – with around a 25% probability.
“A lack of credit will prevent a sustainable recovery”
A common concern is that the recovery can’t become sustainable with private sector credit still falling in the US.
Even in Australia credit growth is still very soft.
This of course is related to double dip worries.
However, there are several points to note.
First, consumers are in fact increasing their spending – even retail sales in the US have been picking up with growth of 3.9% over the year to February and US auto sales are trending higher.
Second, the experience in Australia and the US post the early 1990s recession highlights that debt de-leveraging won’t necessarily stop a recovery in the economy and share market.
See the next chart. In fact, it is the acceleration or deceleration in the change in debt that affects growth.
Sure a rise in the saving rate will detract from growth but once the savings rate is at a new higher level (and debt is still falling) spending can then rise in line with income and so the continuing reduction in debt doesn’t stop growth from resuming.
So while we see high levels of private debt being a longer term growth constraint in the US, UK and Australia we don’t see it as a barrier to a continuation of the recovery.
“Premature tightening will trigger a double dip”
Taking a lead from the experience of the US in the 1930s and Japan in the 1990s it is feared that moves to wind back the fiscal stimulus and/or tighten monetary policy will trigger a renewed global downturn.
However, the general impression from policy makers is that they will only move to tighten once it is clear recovery is self-sustaining.
This explains why Australia and some other Asian countries have started to tighten as growth is looking self sustaining here, but in the US, Europe and Japan tightening is still some way off.
Witness the Fed’s continuing commitment to keep interest rates low for an “extended period”.
We rate the risk of premature policy tightening as low.
“A fiscal crisis in key advanced countries is imminent”
Moves to deal with high public debt levels in the US, Europe and Japan by raising taxes and cutting government spending will constrain growth over the long term.
The concern however, is that investor impatience at the lack of action to c
