Minyan Mailbag: Are America's Problems Everyone's Problems?
The US's problems are everyone's problems for two main reasons...
If commodities (and equities) rose predominantly as a function of rising liquidity, how can we explain the upward trend in the Reuters/Jeffries CRB Index over the last year when Central Banks were removing liquidity? (The Dollar Index (DXY) was also not exactly trending down). Perhaps you can argue that it is only NOW that the restrictiveness of their policy is felt. Even so, will a fall in CRB - signaling lower economic growth - not give more room for the Fed to cut rates and re-initiate a new wave of reflation (especially now that the reflationary gun is fully loaded with 5.25% in ammo)? Furthermore, whilst I can see why a fall in commodities will be bad for EM stocks, the story is different for US stocks. Beyond valuations and structural issues, higher commodities were probably the key factor why US stocks were underperforming the rest of the world, so a reversal may be due.
Where it can turn ugly of course is if the markets actually do react to lower growth (i.e. earnings impact) as opposed to the Fed's reflationary tricks (i.e. markets refusing to expand the multiples as rates are cut). Even worse is - in my view what we had in May/June - where markets know the Fed needs to cut but can't due to sticky inflation or an excessively dogmatic approach to inflation. In other words, misplaced stagflation fears creating the perception of a 'cornered' Fed.
Appreciate your thoughts,
My humble take? There is a difference between what they say (having raised rates) and what they did (inject money supply). Of course, it's difficult to prove this as they stopped pubbing M3....
There is a much 'deeper' answer here.
"Higher commodities were probably the key factor as to why US stocks were underperforming the rest of the world, so a reversal may be due."
There is no proof of that and it may not make sense logically either as a vast majority of S&P 500 companies are truly global and generate significant revenues outside of the US. It was a desire for risk that likely caused the least risky (perception) assets in the world to underperform (US stocks and treasuries). It's as simple as that.
When in doubt, follow Occam's razor and don't over-complicate the analysis...
Many thanks to both for your reply.
Scott - I hear you - perhaps I should have simplified my analysis that EM stocks were proportionately much greater beneficiaries of the commodity rally that developed in the world and especially the US. Regardless, the chart below provides support for what I meant. It shows relative performance of MSCI EM vs MSCI World (white line) vs perf of the CRB index. This question now comes down to whether you believe that the the rise of both EM and CRB is purely a function of liquidity and risk appetite, in which case the correlation can be explained by external factors and that would validate Todd's analysis that a downward trend in CRB spells trouble. Or you're more of a pure 'globalizationist' that believes the rise of EM and that it is a long secular trend - in which case we are talking about strong domestic fundamentals and you buy those false dips in these markets (like in June).
Todd - whenever you have a minute in the next month or so, I would love to hear your 'deeper' answer (with 3 kids under 4, I'll have to wait a few years before attending the next Minyans in the Mountains...which at that time will surely be in Madison Square Garden)
My firm has this debate internally all the time and it's a damn good one to have: whether or not the US's problems are their own and thus to some degree Europe, Asia, and EM markets will be insulated from the terrible macroeconomic position the US finds itself in. My conclusion is a resounding: no.
The US's problems are EVERYONE's problems for two main reasons: (1) The US monetary inflation over the last 2 decades (egregious in the last 10 yrs) has affected not just the economic microstructure of the US (by building up industries like housing and consumer durables and creating MASSIVE overcapacity in those and many other industries) but has also created massive distortions in every other economy that has anything to do with the US (which is pretty much every one of them). Such distortions are the REASON economies go through the boom-bust process, and our own microeconomic distortions are rivaled only by those of other economies worldwide. No one has been spared.
The second (2) reason that EM and other economies are likely to suffer as much as the US is from a US-led recession is because every other G7 central bank (every other central bank period) has gotten smart about what the US does. Faced with the alternative of either doing nothing and letting the US inflate their way into growth at the direct expense of other countries' economies OR doing what the Fed does and expanding credit (and their monetary bases) egregiously, they have ALL chosen the latter: The PBOC has a balance sheet that has inflated at near 30% y/y in the latest reporting period. That MASSIVE country-specific reflation effort has altered (in a very bad way) the internal microeconomic structure of each individual economy to boot, so not only is there damage done to these countries because they are export dependent to US consumers but also because whatever domestic demand (and non-US demand) they have, it ALSO has been distorted microeconomically from the very same policies that their own central bank has followed in parroting the US Fed.
So for those two reasons – a world awash in USD-based credit and on top of that pyramided each country's OWN currency-based credit, we have a world whose microeconomic foundations have been distorted in such a way that any change in that worldwide liquidity demand/availability (means and motive we call it) could precipitate the inevitable bust process in a significant way for EVERY player.
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