As I wrote in my last post about costly risk aversion, the severe global recession that started in 2008 had lasting effects, from changes in risk-return preferences to interest rates, inflation, and stock valuations. Currencies are fluctuating a lot due to massive central bank interventions and carry trades, with large swings in global capital flows, making it hard for traders who follow historical patterns only. After 2008, the global economy and global markets entered a new era, and that poses new opportunities and new risks for those who seek to make good decisions and avoid bad ones. Let’s look into this a bit deeper.
Germany and the USA doing well
Germany and the USA are now close to natural unemployment, although the USA may have more slack left in the books than many expect, as I have commented about on the facebook page and on the Market Outlook page of the website.
A quick look at the US participation rate since 1990 suggests that there may be plenty of remaining upward room for increase, suggesting more slack in the economy than what may suggest the unemployment rate. I am not in the demographic story camp for the PR (participation rate), as it bombed way too quickly to represent a permanent, structural shift downward.
There is no doubt a demographic backdrop that may have been reinforced and accelerated by the 2008-2012 period, but my 2 cents is that there may be upwards of 2 million “idle US workers” that are about to join the labor market on top of normal job creation, which would suggest low inflation, a low Fed Funds Rate, and sustained stock market, oil, and gold momentum going forward. This has far-reaching implications for forex and stock markets worldwide, but one needs to keep an eye on the Eurozone and Brexit… keep reading…
China VS India: where is the future?
The reshaping of China’s growth strategy is proving difficult – exports and resource mobilization can only go so far. Institutional issues are cropping up, with policy risk posing problems for foreign capital risk assessment, which weighs down on stock and housing valuations.
After entering the WTO in the early 2000s, strong Chinese growth and exports put pressure on the Chinese currency towards appreciation against the USD in the forex market. In order to avoid appreciation of the Yuan (to support export-led growth), the People’s Bank of China flooded the forex market with Yuan (the Chinese currency) by buying USD-denominated assets, along with other foreign assets, as is clear in the graph below.
As the Fed suggested a gradual retreat from QE and increased the interest rate just a bit over the past 2 years, the impact on currencies and markets worldwide was felt, with global capital leaving many countries and flocking to US markets to avoid currency risk. China was not an exception, and the currency became under pressure to a point where capital flight destabilized markets and the central bank had to defend its currency against depreciation by massive selling of USD in forex markets (see graph).
(Number of Yuan to buy one USD: a decrease is appreciation of the Yuan, an increase is a depreciation of the Yuan).
China International Reserves
From almost zero to 4 trillion in 15 years, and down almost 1 trillion in 1 year… the Yuan was under pressure recently!
(Increase signals central bank is flooding markets with Yuan to avoid appreciation of Yuan, decrease means central bank is defending currency by buying Yuan and selling reserves in the forex market to avoid too much depreciation).
While China is “reorganizing” and moving from 8-10% average growth to 6-7%, India moves on, with steady growth that is trending up into the 7-8% range and a demographic outlook that is among the most bullish in the world (along with Africa). The large and still-underdeveloped Indian market offers massive opportunity, even with the many institutional issues it may have.
The Indian Rupee depreciated about 11% per year versus the USD since 2012, but with an interest rate reaching 8%, a short position was not that attractive, especially when considering risk (I stayed out, personally).
Japan and the Yen
Japan entered QE and reflation in 2013, with obvious consequences on the Yen (shame on you if you did not see this coming – it was written all over the place with red flashers!), with interesting short positions along with very tolerable risk if you understood what was going on and combined graph and indicator analysis to sound macro analysis.
The problem is that they have trouble keeping inflation convincingly around 2%, which always makes the Yen re-appreciate, making it very important to exit short positions at appropriate times! This eternal reversal of inflation keeps them in debt-deflation dynamics and prolongs the stagnation. Investors will have to keep an eye on Japan and the Yen to fully master the global picture and make the best of forex opportunities when they show up.
Eurozone and UK: the end of a relationship?
The Eurozone structural problems continue to weigh on growth and prosperity, although there are some signs of improvement in many countries. But the dichotomy within the Zone remains clear, with German exports and economy doing well while neighbours struggle to get out of stagnation.
On June 23, the UK will hold a referendum on exiting the European Union to free itself entirely of all rules, regulations, and policies applicable to EU members, and put a definite end to possible adoption of the Euro down the road. Current polls suggest a small lead of the pro-exit camp, but forex prices do not reflect this for now, as an exit is not currently priced in. My tip: keep a CLOSE eye on all this!
An exit of the UK from the EU could potentially have serious consequences on the Pound versus the Euro, and would favor the USD against all currencies in the short run. Such an exit would likely have very real consequences on world stock and forex markets and could pose a serious threat to the global economy for 2016-2017, in which case US money markets would be the best place to park your money, while we assess the more fundamental impacts of an exit after the short run consequences pass.
On the backdrop of ECB policy and Fed talk in 2014-2015, the Euro lost 20% versus the USD, but recent developments are supporting the Euro. The run-up to the June Brexit referendum will be ripe with risk and opportunity for investors who understand what is going on.
Fundamentals of the post-2008 global economy
There is so much to say here that this subject will be spread out over several future blog posts. The global labor market is showing “hollowing out”; inequality is a reality and has consequences for forex and stock traders; global poverty has decreased and is still decreasing at a historical pace, which also has important consequences for investment strategies; QE policies and negative yields are widespread and have massive implications for currency and stock market fluctuations and capital flows; government debt skyrocketed; household debt-to-income ratios decreased in some countries and increased in others; housing markets for certain cities are now “global” by nature; demographic tides are massive and very different between large blocks of the world economy; there are still major innovations coming down the pipe and market-moving policies and developments will emerge…
In short, there is lots of action and LOTS of opportunity for investors who know how to analyze markets and the economy, and combine technical analysis with sound macro analysis. Stay tuned for many fascinating articles going forward, and join the candid discussions on the facebook page (https://www.facebook.com/yourpersonaleconomist/).
I hope you enjoyed this post and that things are a bit clearer now! Feel free to comment, share, and to contact me. Cheers!
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