Volume 2.4 Still Bullish Apr 13 2010

8/9/2019 Volume 2.4 Still Bullish Apr 13 2010

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BoeckhInvestmentsInc.,17501002SherbrookeStreetWest,Montreal,Quebec.H3A3L6Tel.5149040551,[email protected]

Volume 2.4April 13, 2010

StillBullishInthisissuewetouchonfournewdevelopmentsthatsupportacontinuedbullish

stanceonriskassets. However,westillhavelongtermconcernswhichrelatetothe

potentialunwindingoftheprivatedebtsupercycleanditsreplacementwithanewpublic

sectordebtsupercycle. Inaddition,unwindingthegreatreflationinanorderlymannerwill

remainaseriousglobalchallenge. Surprisesarelikely;volatilityanduncertaintyarealmost

certainlygoingtorise.

Thepowerofliquiditytodrivemarketsinthefaceofmacroeconomicconcernshas

onceagainbeenclearlydemonstratedoverthepast13months. Theliquidityenvironment

continuestobepositiveforriskassets,marketpricesarelikelytoremainonanupward

trend,mergersandacquisitionswillincreaseandinvestmentfundswillcontinuetoseek

outgoodvalue.

1. TheEconomyBrighterheadlinenewsontheeconomyandprofitshasliftedconfidence.

Unquestionably,theeconomicnewsisbetter,inparticularprofitsandcorporate

liquidity,as

we

discussed

in

the

February

25th

2010

Letter

(volume

2.2).

However,thebigdangerintheshortrunisarecoverythatistoostrong,causing

arekindlingofprivateborrowingandhouseholdspending,whichwouldclash


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THEBOECKHINVESTMENTLETTER WWW.BOECKHINVESTMENTLETTER.COM 2

withburgeoningpublicsectorborrowing. Thefactisthatmuchoftherecent

economicstrengthisalaggedeffectofthestimulusprogram. Inaddition,

comparisonsarebeingmadewithverydepressedyearagonumbers. Ourview,

whichwillbedevelopedmorefullyinthenextissue,isthattheunderlying

economyisstillprettyweakandwillgravitatetowardsverysubparrecovery

growthofaround2%. Thatisfarbelowtheusualpostrecessionreboundsofthe

past. Twohugeimpedimentstogrowtharehouseholddeleveragingandaheavy

fiscaldrag.

Recent

data

on

consumer

debt

is

consistent

with

this

view

as

Februarydatashowsanearly6%decline. TheCongressionalBudgetOffice(CBO)

hasprojectedthestructuralcomponentofthefiscaldeficittocontractbyalmost

4.5%ofGDPinthenexttwoyears,ahugehittotheeconomy. Inaddition,state

andlocalgovernmentsareattemptingtoslashdeficitsbycuttingexpenditures

andraising

taxes,

creating

additional

fiscal

drag.

A2%growthscenariowouldbebullishforfinancialmarkets.Itwould

allowprofitsandproductivitytokeeprising,holdpriceinflationincheck,support

furtherglobalrebalancing,andallowtheFedtokeeprateslowandliquidity

plentiful. Thiswouldcontinuetoanchorlongratesatclosetocurrentlevels.

Fiscalrestraintwouldhelptodissipatefearsofrunawaygovernmentdebt:GDP

ratios.

However,itmustberecognizedthatprobablyneverinthepostwar

periodhastherebeensuchawidedispersionofeconomicviews.Theyrange


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fromtherecessiondoubledipperstotherunawayboomers,andeverythingin

between.Therealityisthatinvestorshavezeroconfidenceinanyparticular

economicviewandshouldtreatforecastswithmuchmorescepticismthanever,

includingourown. Itisafactoflifethatwehavetoremainpragmaticand

flexibleinourviewsandwatchcarefullyforthekeybenchmarksthatwould

requireachangeinview.

2. ChinaandthefloatingoftheRMBTheU.S.Chinabackdoordealhasyettoberevealedinfull,butthe

outlineisclear. Bluffmanshiponbothsidesworked;theU.S.gotafacesaving

dealontheRMBandcalledoffthecurrencymanipulationthreat. Chinagota

protectionistCongressoffitsbackforthetimebeing.Thekeypartofthedeal,

wewould

guess,

is

that

China

will

continue

to

support

the

U.S.

dollar

and

U.S.

Treasurybonds,somethingitwouldhavetodoanyway.Thewolfissatisfiedand

thesheepisintact.

TheChinesewillwidentheRMBrangearoundthedollarpegandwill

allowacontrolledupwardfloataswasthecasebefore2008.Thiswillmakelittle

ornorealdifferenceunlessthemoveishuge,whichisveryunlikely.Chinas

productivitygrowthinitsmodern,manufacturing,exportorientedsectoris

about15%peryear,wagegrowthmaybe10%,probablyless.Therefore,thesolid

pegagainstthedollarsince2008meantabouta5%realeffectiveexchangerate


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devaluationannuallyagainstthedollarandamuchbiggerdevaluationagainst

currenciesthatroseagainstthedollar.Floatingupat5%peryearwouldmeana

stableandstillgrosslyundervaluedRMBagainstthedollar.FredBergstenofThe

PetersonInstituteestimatestheundervaluationataround40%.Thiswillbeonly

partiallyreduced,andveryslowlyatthat.Chinawillcontinuetorunhugecurrent

accountsurplusesandgrowrapidly.

Theupwardcrawlingpegwillcreateexpectationsoffurtherrisesand

hencecapital

inflows

and

liquidity

in

China

will

likely

increase.

Asset

price

gains

mayaccelerate.TheChinesestockmarketisstillabout10%belowtherecovery

highoflastsummerandisnotabubble. Itappearsreadytobreakouttothe

upsidesoinvestorsshouldstaylongChinaandignorethebubbleworriesunless

thingsgetreallyfrothy.

3.GreeceandthePutativeBailoutMarketforcesonceagainforcedthehandoftheEUauthoritiesasGreek

bondyieldsblewouttoarecordhighvisvisGermanyieldslastweek. Fitch,

thebondratingagency,sharplydowngradedGreece(afterthemarketsspoke,as

isalwaysthecase).Therenowappearstobea45billionloanpackageonthe

table(detailslackingasusual)todeterspeculators,theusualscapegoated

villains.Fortunately,theIMFappears,finally,tobeinonthepackage.Ifthereis

clear,transparentfollowthrough,thiswouldmakeitfarmoreconvincing.Left


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ontheirown,theEUauthoritiesfailedmiserablytoconvinceanyonethatthey

wereuptothejobofsalvagingGreecescatastrophicfinances.Assumingthis

dealgetsdone,theGreekeconomywillgothroughtheringerforthenextfew

years.Sovereignspreadsofhighriskcountrieswillnarrow,butonlyforawhile

becausetheGreeksagawillreappear. Inthemeantime,thebailoutisbullishfor

theU.S.bondmarketintheshortterm,inthatitwilltendtodampenupward

pressureonratesandgreatlydiminishthethreatthattheFedwouldhaveto

tightenprematurely

for

purely

financial

reasons

(dollar

selling

and

fear

driven

dumpingofU.S.bonds)andallowittokeepliquidityplentifulandshortrates

low.Thisis,naturally,bullishforU.S.stocks.

ItalsoneedstobeemphasizedthatGreeceis,infact,thecanaryinthe

coalmine.Itisaclassiccaseofacountrythathashitthefinancialwall.Itsdeficit

anddebt

levels

at

13%

and

120%

of

GDP

respectively

are

appalling

in

their

own

right.Thecountrysborrowingcostsarefaraboveanypossiblegrowthrateand

thecountryisinahugeprimary(i.e.excludinginterestpayments)deficit

position.Inaddition,Greecessavingshavebeensolowforsolongthatithas

hadtorelyonheavyforeigncapitalinflows(U.S.watchers:doesthissound

familiar?).Thus,foreigndebthasskyrocketed.Withoutadevaluationoption,it

mustreducelivingstandardsbymassiveinternaldeflation.Strikeswillbecome

endemicandthatwillpoisonthetouristindustry,oneoftheprimaryexport


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earners. ItisfarfromclearthatGreecewillmakeit,sodontbetonGreek/EU

stabilitylastingverylong.

ThegoodnewsoutoftheGreektragedyisthatmanyothergovernments

havewatchedthecanarygetverysickandhavetaken,orwillsoontake,drastic

actiontoslashdeficits.Thisincludesmanystateandlocalgovernmentsinthe

U.S. Fiscaldrag(declineinstructuraldeficits)onaglobalscalewillbemassivein

thenextfewyearsandhencefearsoverawidespreadsovereigndebtcrisismay

havetriggered

aconstructive

reaction

of

meaningful

fiscal

restraint.

If

so,

it

will

begoodforbondyields,butnotsogoodforgrowth.

4.CommodityPricesandtheDollarRecentbreakoutstonewhighsinthebellweathercopper,aluminum

andcrude

oil

markets,

better

action

in

the

gold

market

and

general

commodity

indexesreinforcetheviewthattheglobaleconomicrecovery,onbalance,

remainsintactandcouldstrengthenforawhile.However,someareas,notably

theEU,remainweak.Manypartsoftheworldforexample,China,South

America,Canada,Australiaaresurprisinglystrong,showingthebenefitsofnearly

freemoneyandthelaggedeffectoffiscalstimulus.However,somecoolingis

neededifatighteningofmonetarypolicyinthestrongareasistobeavoided.

Whilepotentiallypainfulinthenearterm,itwouldbeconducivetolongterm

stability. Fortunately,thatislikelytohappen.


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TheU.S.tradeweighteddollarhasbeenfirmsinceDecember,drivenin

goodpartbyweaknessintheGreekdamagedeuro. Theyenhasalsobeenvery

softandhasbrokendowntoanewlowagainstthedollarinrecentweeks.Gold

hasbeenthemirrorimageofthetradeweighteddollarforthepastyear(and

mostofthetimehistorically). Recently,goldhasbeguntofirmupwithoutthe

dollargoingtonewlows.Thiscouldbethebeginningofadecouplingor,possibly

animpliedforecastofaweakerdollarahead.Eitherway,itisarelativetrend

thatneeds

to

be

monitored

closely

by

investors,

as

gold

looks

to

be

heading

higher,drivenbyanevolvingpeakgoldthesisandlongertermfearsof

monetarydebauchery.

Tosummarize,weremainbullishonU.S.equitiesandtheequitiesofcountriessuchas

Canadaand

Australia

that

are

beneficiaries

of

the

world

recovery.

Emerging

market

equities

haveoutperformeddevelopedcountrymarketsandtheyarelikelytoremainstrong.Chinain

particular,lookssettomovehigher.

Thekeybenchmarksforinvestorsthatwehavepointedtoasagaugeofpotentialrisk

U.S.Treasuryyields,corporatespreadsandthedollarallremainrelativelystable.U.S.bond

yieldshavedriftedhigherasweexpected.Thisisnotyetacauseforworrysolongasthedollar,

U.S.stockmarketandprofitsremainstabletorising.

Wealsowanttoemphasizethatourlongheldviewontheimportanceofwealth

preservationremainsintact.Thefinancialworldisstillfragile,therecoveryartificialinmany


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Volume 2.4 Still Bullish Apr 13 2010