A global economic recovery does not mean business as usual.
August 24th, 2009 · Greg Atkinson · 16 Comments
After the strong stock market rally today I think we can safely say the bear market of 2008-2009 is now well and truly over. The ASX All Ordinaries & ASX 200 are still clearly trending upwards and commentators who were predicting a Global Depression just a few months ago have started adjusting their forecasts.
But although there are plenty of economic indicators around that suggest the Australian economy is holding up well and that a global economic recovery is taking hold, I believe it is important for investors not to blindly leap back into stocks. Money can be also lost in bull markets!
As I have mentioned a few times I feel pretty confident that the Australian stock market will continue to rise but it will probably struggle to break through the 4800-5000 level on the All Ords & ASX 200. I hold this view simply because I believe the Australian economic outlook according to the RBA (and Treasury) is overly optimistic and that over the next few months company earnings will show that economy is still struggling.
The major problem with the RBA’s economic outlook in my opinion is that they assume that China’s demand for Australian resources will remain strong. Maybe they are right, but I have my doubts.
Just because the global economy is slowly crawling out of a hole does not mean it will be back to business as usual any time soon. Many developed nations have gone heavily into debt in order to spend their way out of trouble and this means in the years ahead governments across the globe are going to be looking at ways to pay off this debt. This means over the next decade we are going to see governments cut back on spending, raise taxes and this will put a drag on consumer spending.
So it is unlikely that we will see the global economy surge back to the level reached in 2007/2008 no matter how much money the Chinese Central Government pumps into building projects etc. Therefore it is unlikely that the demand for resources from China (and other nations) will ramp up again and in fact it may even weaken somewhat when the Chinese Government eases back on spending at some point.
What is more likely to happen over the next few years is that there will be a gradual recovery across developed nations, perhaps higher growth in some emerging economies and dare I suggest it, a slowing down in the Chinese economy. If something like this was to unfold over the next few years then prices for commodities such as iron ore and coal will remain well below their 2008 highs.
The Baltic Dry Index has been trending down since June and this may suggest that a weakening in demand for commodities is already starting to be felt. If you then factor in that both RIO Tinto and BHP Billiton are somewhat cautious about the outlook for commodities in the short term then it is hard to see how any iron ore or coal miner would be able to rise prices.
In addition oil prices are struggling to hold above $70 USD a barrel even with OPEC cutting production, gold demand for industrial use is down and major airlines are reporting that passengers numbers are still way below normal. This suggests that there is still some economic pain to trickle through the system and that some companies will still struggle well into 2010 at least.
We also need to factor in the impact of the measures aimed at reducing C02 emissions and in many developed nations this is likely to mean higher costs for consumers and businesses. This will put a further drag on economic growth in the developed world, but on the other hand probably help growth in many developing nations where they will most likely end up merrily pumping as much C02 into the atmosphere as they like.
This current global economic recovery will have it’s own unique character. Some sectors in the economy that were strong over the last few years may fare poorly in the future, whereas other sectors overlooked for years may surge ahead. Maybe commodities exports from Australia to China and Japan will surge once more but then again, perhaps heady days of 2007/08 may never return?
At this stage all that anyone can do is to try and guess what form the global economy will take. There is also a very real danger that many countries will slip back into recession once government economic stimulus measures are scaled back, and so it is possible that the global economy will face another period of decline if that happened.
It is important therefore not to be carried away by the excitement stirred by stock market rallies and talk about economic recoveries. It is still very early days and although stocks are out of bear market territory, this does not means they will get anywhere near the highs of 2007 within a few months.
Yes we seem to be seeing an economic recovery, but the question that still needs to be answered is: a recovery to what?