Which "ation" is This And How Do We Play It?
Graham Summers
February 4, 2010
I've been receiving a number of emails lately asking me whether I am a deflationist or an inflationist. Just as often I am asked if we're in a deflationary environment or inflationary environment.
My answer to both questions is "yes."
Truthfully, most of the us would do better if we simply dropped the "it's either that " paradigm of thinking for investing. Case in point, one can easily argue that stocks are in a bear market rally. But then again, with stocks up 60%+ since March 2009 (100+% for some emerging markets) one has to wonder just how stocks have to rise in order to be in a "bull" market.
The reality is that most of these titles stem from the investment community simply as a means of creating the illusion that somehow you can quantify market behavior into simple "it's either this or it's that" cycles and patterns. Most if not all of this is totally bogus. Indeed, more often than not, you get a bit of both options at the same time.
Like inflation and deflation today.
Few if any topics divide the investment community as greatly as the "ation" debate today. Most if not everyone is committed fully to some kind of "ation" outcome whether it's deflation, inflation, or hyperinflation.
The reality is that both "ations" are existing right in front of our very eyes. We clearly have deflation in housing as well as most of the securities market (if the assets owned by banks were marked at anything resembling reality). On top of this there's wages/ income dropping and the Dollar rallying again. Looks like deflation to me.
Yet, at the same time, we've got asset inflation in other areas like oil, food, and even stocks (all of which have risen in the last year… some by quite a lot). Heck, oil alone has nearly doubled in the last 12 months. That's some serious inflation right?
You can even see the two forces at work in term's of the Fed's monetary policy. The Fed has increased its balance sheet by more than 100% from $800 billion to $2.2 trillion since the Financial Crisis began. That's inflation for sure. But we've also got trillions if not tens of trillions in unrecognized losses floating around the financial markets. Again, inflation and deflation existing side by side.
Again, you can have inflation AND deflation at the same time. Betting heavily on one or the other is a sure fire way to lose money in this market. So don't get too married to one philosophy.
Meanwhile, One of the BIGGEST Leading Indicators for the US Stock Market is Collapsing
Much of the talk of economic recovery has hinged on China's growth "miracle." Indeed, while the rest of the world slipped into recession or worse, China has somehow managed to produce GDP growth of 8%, a staggering figure when you consider that roughly 40% of the Chinese economy hinges on exports… and the rest of the world is undergoing a massive state of deleveraging (and purchasing less).
I know, I know, the People's Republic is shifting to a more "internal consumption" based economy. But with the average Chinese income hovering around $3K per year (roughly $8 per day not counting weekends), I'm not sure how the Chinese are going to start chugging Lattes and buying Tiffany's jewelry in the next year or so.
Let's step back and consider the facts pertaining to China today. China:
- Is a Government-controlled country
- Economic accounting oversight does not exist within this country
- The Government has spent nearly $600 billion (almost 15% of GDP) in Stimulus
- As a state-owned country, when the Government says "LEND!" the banks lend, big time. Consequently…
- Most of the Stimulus has plowed into the real estate markets (new apartments in Shanghai and Beijing have risen 50-60% in value in the last year) and the equity markets (the Shanghai index rose almost 100% last year)
This final point is key in that China's economic policy AND financial markets have lead their US counterparts ever since the all-time high in stocks in October 2007. Indeed, the Shanghai Index, began its plummet in November 2007 and pretty much fell for like a brick for 12 months.
In contrast, the US's S&P 500 took its time meandering down, bumping along for most of 2008 before entering a free-fall in the Autumn months.
Thus we see China's stock market leading the US on its way into the Financial Crisis of 2008. This leading status continued regarding economic policy response to the Crisis with the Chinese government announcing its Stimulus plan in November 2008 while the US announced its own plan in February 2009. As one would expect, this lead to China's markets bottoming first (November 2008), while the US's market didn't find bottom until March 2009.
Thus we see China's markets leading the US into and coming out of the Crisis. By now you've no doubt deduced that smart investors should keep their eyes on China for clues as to what might be coming down the pike for the US market.
With that in mind, I wanted to note that China's Shanghai Index (black line) has been in decline since late December. In contrast the S&P 500 (red line) only began to follow suit in mid-January. And while US stocks have just begun to bounce from a rough couple of weeks, China's market continues downward.
Of course, we must note that China's decline is largely a result of its Government curtailing lending and easy credit in the People's Republic (there has been no similar change in US policy, though it's worth noting that the Fed's various purchasing programs are due to expire in March if not renewed).
With this in mind, I would urge US investors to be extremely wary of this latest bounce. If China's market continues to serve as a leading indicator, there is plenty of more trouble coming for US stocks.
If you haven't already taken steps to prepare yourself for a rough 2010, take advantage of the current bounce in US stocks to do so. I can show you how.
Good Investing!
Graham Summers
PS. I've put together a FREE Special Report detailing THREE investments that will explode when stocks start to collapse again. I call it Financial Crisis "Round Two" Survival Kit. These investments will not only help to protect your portfolio from the coming carnage, they'll can also show you enormous profits.
Swing by www.gainspainscapital.com/roundtwo.html to pick up a FREE copy today!
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