It was flattering to be invited to contribute to a thought leadership roundtable on the topic of ‘Global Financial Markets: Challenges and Opportunities’, an initiative of the UAE government, as part of the World Economic Forum Summit on the Global Agenda Councils being held in Dubai last month. And while this was a closed session these are some comments prepared in advance.
Since the turning of the millennium we have seen global financial markets become progressively more and more unstable. This has largely been a function of credit expansion, in the private sector up until 2008 and in the public sector thereafter. Asset bubbles have shifted from the dot-com stocks to housing to the stock market and most particularly the bond market. Gold and silver have advanced in price by the most of any major asset class. Oil has also done exceptionally well.
However, we are approaching a key reversal point. You cannot print money ad infinitum as the QE3 programme from the Fed proposes. At some point the bond market will collapse, in extremis when all the new money being issued is being used to service the interest on past debts. Thus for all the brave talk from the central bank money printers this cannot go on forever.
The amount of leverage in the global financial system beggars belief. To correct this leverage the system can either heal itself through paying down debt and effectively policed bank regulation, or go spectacularly bust as happened in the 1930s. The idea that you can carry on printing money until this becomes easily done through higher growth in the economy is a nice one but it does not work that way.
We can look back at all the money injected into the US economy since the global financial crisis and see that the money spent was far more than the growth obtained. Money has to be spent on productive assets to really boost GDP above the value of the investment, and this just has not been happening. ArabianMoney does not expect this situation to be resolved without some major volatility in financial markets over the next two years and some serious systemic challenges for policymakers. Some of the institutions and perhaps whole countries that are presently propped up as ‘too big to fail’ will nonetheless have to fail because it will not be possible to raise the money to save them.
The ArabianMoney core global economic scenario would be for a rather volatile, muddle-through to characterise financial markets for the next few years that will be affected by lower growth and higher inflation. It will be very difficult for investors to make money in equity or bond markets in this environment with the most recent parallel being the 1970s era of stagflation, although this time will most probably be much tougher.
We think company profits will be squeezed by a combination of monetary inflation driving up commodity prices and unemployment dampening demand. That’s bad for stocks and good for commodities like oil and precious metals. Then again higher monetary inflation should pull up interest rates and destroy bonds, particularly as central banks gradually lose control of the money supply as they already are in Spain, Portugal, Italy and of course Greece.
On the other hand, we don’t really believe the Armageddon predictions of a total collapse for the global economy, although that can and will happen to some nations and most definitely to some corporations.
Where we see opportunities in financial markets over the coming few years is in oil and gold and all associated assets, and assets in the Oil States, such as property and stocks. That would include Russia as the standout large emerging market and the frontier markets of the UAE, Qatar, Iraq and Saudi Arabia.