I recently decided to put my money where my mouth is - by investing in stock markets purely on my own view of the global economy, industries and social trends. Over the next few weeks, I will be posting some of the thought process that will govern my decision. The views are expressly mine and for heaven's sake, please DO NOT make any of your investment decisions on anything expressed here or you might hate my later ;)
My investment decisions are going to be based on my view of the world economy as of august 2007 which are as follows:
§ US economy has shown amazing resilience in the face of the bursting in 2000-01 of the biggest stockmarket bubble in history, of terrorist attacks and of a tripling of oil prices; flexible wages and prices, rapid immigration, a sounder banking system and globalisation as factors that have made the economy more resilient to shocks.
§ Part of America's current prosperity is based not on genuine gains in income, nor on high productivity growth, but on borrowing from the future.
§ As a result of weaker job creation than usual and sluggish real wage growth, American incomes have increased much more slowly than in previous recoveries.
§ Central banks in Asia and oil-producing countries have so far been happy to buy dollar assets in order to hold down their own currencies. However, there is a limit to their willingness to keep accumulating dollar reserves.
§ Given that consumer spending and residential construction have accounted for 90% of GDP growth in recent years, it is getting difficult to see how this can occur without a sharp slowdown in the US economy.
§ Last year, emerging countries’ GDP grew in current dollar terms by $1.6 trillion, more than the $1.4 trillion increase of developed economies. And there is more to this than just China and India: these two countries together accounted for only one-fifth of the total increase in emerging economies' GDP last year. Vietnam, Brazil Russia, Middle East, Easter Europe and even other Asian countries are joining in. People are now talking of BRIC plus N-11 which includes Pakistan, Vietnam, Bangladesh etc
§ Emerging economies have also become increasingly important markets for companies from the rich world. Developed economies' trade with developing countries is growing twice as fast as their trade with one another. Over half of the total exports of America, the euro area and Japan now go to emerging economies. The EU exports twice as much to them as it does to America and Japan combined.
§ Of course, with half the world's output but five-sixths of its population, emerging economies still have incomes per head far lower than the rich world. Their share of exports has more than doubled since the 1970s. Over the past five years, they have accounted for more than half of the growth in world exports. On the other hand, their stock-markets still account for less than 20% of global capitalisation.
§ Unlike many previous booms, the emerging countries’ current expansion has been financed largely by domestic saving rather than debt: their average ratio of foreign debt to exports has fallen and they have built sizeable forex reserves.
§ However, some of the recent boom in emerging economies is due to three factors that may be unsustainable. First, rising commodity prices have given a fillip to producing countries, such as Russia, Brazil and South Africa. Second, low interest rates have reduced debt-service costs—especially important for Latin America, where the debt-to-export ratio is twice as high as the average for emerging economies. And last, exports have been boosted by America's strong import demand. This favourable environment cannot last: interest rates are rising, and American consumers cannot keep spending more than they earn. Emerging economies' energy-intensive heavy industries are also vulnerable to high oil prices. A saving grace is that these risks partly offset each other. A slump in American demand would reduce both interest rates and oil prices.
§ Perhaps the biggest risk is that the boom may encourage complacency and reform fatigue. Yet further action is needed, from greater fiscal discipline to more flexible exchange rates. India an China are still leading the fight to keep economies closed.
§ The future expansion of emerging economies will not follow a straight line. It is unavoidable that emerging economies are more prone to economic ups and downs and financial bubbles, as America was during its entry on to the global stage in the late 19th century.
§ My pet concern re emerging countries - local political challenges, fear in Western World and reaction possible (highly probable)
§ However, the long-run prospects for emerging economies as a whole look excellent, so long as their move towards free and open markets and sound fiscal and monetary policies continues. Get these basics right, and developing countries ought to outpace advanced economies. Because they start with much less capital per worker than developed economies, there is huge scope for boosting productivity by importing western machines and know-how.
§ Globalisation is causing the biggest shift in relative prices (of labour, capital, commodities and goods) for a century, and this in turn is causing a significant redistribution of income. Low-skilled workers in developed economies are losing out relative to skilled workers. And owners of capital are grabbing a bigger slice of the cake relative to workers as a whole.
§ As a result of China, India and the former Soviet Union embracing market capitalism, the global labour force has doubled in size. To the extent that this has made labour more abundant, and capital relatively scarcer, it has put downward pressure on wages relative to the return on capital. Throughout the rich world, profits have surged to record levels as a share of national income, while the workers' slice has fallen. Hence western workers as a whole do not appear to have shared fully in the fruits of globalisation; many low-skilled ones may even be worse off. But this is only part of the story. Workers' wages may be squeezed, but as consumers they benefit from lower prices. And as shareholders and future pensioners, they stand to gain from a more efficient use of global capital. Competition from emerging economies should also help to spur rich-world productivity growth and thus average incomes.
§ The profits boom has been fuelled by globalisation. The emergence of China and India, with their vast, cheap labour forces, has weighed on labour costs in the West, as well as keeping a lid on inflation and interest rates. But there is a flipside. The demand for raw materials from China and other fast-growing emerging economies is now posing a threat to profitability, as commodity prices rise.
§ Russian, Indian and Chinese stockmarket subject to significant fraud and manipulation as well as regulatory crackdowns.
§ Fire in the belly to do better in East Asia, India, China, Eastern Europe.
§ Less wastage in middle east – education, health and infrastructure being recognized as focus areas.
§ China rules: Even though China is investing at the staggering rate of 46% of GDP, it is still running a net saving surplus, and that surplus is still growing. Savings, commodity prices, cost of goods, manufactured goods demand driven by it.
§ Americans now save less than 1% of their disposable income, compared with a euro-area average of 10%. America's budget moved sharply into deficit, whereas Europe's public finances have seen less change. As a result, America's national saving rate is now below 14% of GDP, compared with over 20% for the euro zone.
§ Europe has, in fact, made significant progress on economic reform in recent years. Germany's labour market has become more flexible and the country's social benefits have been trimmed. France's pension system has been overhauled. The market is already reflecting this good news and optimism in Europe.
§ A reason for unusually low interest rates is that a large chunk of those surplus savings has been under the control of central banks, particularly in Asia. Thus far, these banks have cared less about risk-adjusted returns than about stopping their currencies from rising. The sustainability of America's deficit and the risk of a hard landing depends on whether they will continue to do so.
§ Africa seems to be progressing at grass-roots but Africa and Middle East story not yet captured the market. This is an untapped story.
§ Decision making at consume levels in household very much in control of women and younger people with new tastes will be the other prominent group – various new segments popping up – niches are to be served.
§ Entertainment taking up larger part of time of consumers and soon wallet share too in developed countries; entertainment and communication expenses will be even more prominent as people “surge” upwards in developing countries – not education or health as much.
§ Baby boomers will cause a need for specialized training, knowledge coaches, recreational needs, health care, religious products in the Americas.
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