It has been an exciting six months in markets. Most asset prices have risen, as the world’s authorities have made unprecedented levels of financial support available to economies and banking system. The Chinese led the way with a massive budgetary and monetary stimulus. The UK and US authorities turned to buying bonds with money they created, to keep government interest rates low and to inject more liquidity into world markets. In Euroland the European Central Bank was a bit more cautious, but all banks at risk were handled to avoid collapse whilst the German government found ways to subsidise its hard pressed car industry.
We recommended being invested in a mixture of Asian and world equity, world property through Real Estate Investment Trusts, commodities and corporate bonds. All have done well in this liquidity drenched improvement in capital values. As markets rose we grew a little more cautious, taking some profits on share positions and putting in more bond exposure where appropriate.
The world economy remains badly damaged by twin crises. There is the western banking crisis, where many banks still need a long work out period to put behind them the mistakes of the past and get back to strong balance sheets. The authorities have made clear they will not let another major bank go down, and have put various banks on measures of support. The need to sort out balance sheets means slower growth in the worst affected countries like the UK and US. There is also the large imbalance between the saving and exporting countries on the one hand, and the spending, borrowing and importing countries on the other. These imbalances remain large and will affect future growth for both sides of the precarious balance. It will do more damage to the growth rates of the over borrowed as they seek to work off the debt.
It is true that China responded well to the crisis by injecting large sums into its economy through monetary and fiscal stimulus. There remains the danger that China cannot stimulate sufficient extra consumption to take up the slack from more depressed western demand, and will concentrate too much on extra investment at a time of capital surplus. The US and UK will start to correct their balance of payments deficits as a result of the falls in the dollar and the pound, making imports dearer and domestic product better value. They will both, however, need to rein in consumption in public and private sectors, to curb the deficits.
We are looking forward to a world where there will be more monetary and fiscal stimulus from authorities worried about a double dip or relapse into deeper recession. There will, however, also need to be some restriction on the amounts the US and UK can print and borrow, and some monetary tightening in the more successful faster growing economies, as we have already seen with a rise in interest rates in Australia.
We expect the movement of economic power from West to East to continue apace, and for the more overextended western countries to find adjustment painful and difficult. Our portfolios will continue to place more emphasis on growth in parts of the world where that is likely to be faster and to continue. We will keep some money invested in bonds as some balance, given the huge uncertainties about the future growth and strength of the main western economies after the Crunch, and given the sharp recovery in share prices we have now enjoyed.