Did Bernanke Signal Return of Risk-Off Market? – Bloomberg 06-27-13

Salient to Investors:

A. Gary Shilling at A. Gary Shilling & Co. writes:

Short stocks and commodities, go long the dollar and Treasuries – if stocks continue to decline, the safety of Treasuries and investment-grade bonds will outweigh concerns about the end of QE.

World economies are growing slowly at best and hold no interest for equity investors, whose entire focus has been on QE.

Investors are facing two shocks: the end of QE and a hard landing in China.

China’s growth is slowed by huge excess capacity and declining numbers of labor force entrants. Official growth data are vastly overstated. and is closer to the 5 percent to 6 percent hard-landing level. China’s total domestic credit from banks et al was 207 percent of GDP in 2012 versus 145 percent in 2008, with much of the increase coming from shadow banking. Short-term interest rates rose to 25 percent last week.

Ultralow interest rates have pushed investors into the highest-yielding assets they could find, regardless of risk, including junk bonds, leveraged loans that finance private-equity buyouts, developing country bonds, investor-owned single-family rentals, and high-dividend stocks such as utilities and consumer staples.

Investors are dumping emerging-market assets and junk bonds. High dividend stocks which outperformed in Q1 underperformed in the recent sell-off. Pension funds have moved into private equity, developing-country stocks and bonds, hedge funds and even commodities.

The average closed-end bond fund has fallen 10.7 percent in the past month versus a 3.4 percent decline in open-end bond funds.

Developed country stocks have much further to drop. The sluggish US economic recovery has produced minimal sales volume growth and no increased pricing power as inflation rates fell to zero, resulting in companies cutting costs, pushing corporate profits’ share of national income to an all-time high.

Robert Shiller’s cyclically adjusted P/E indicates the S&P 500 is 30 percent above its long-term trend.

Slower Chinese growth in manufacturing undermines the rationale for the commodity bubble of the early 2000s. Higher interest rates are eliminating the incentive to store crude oil for sale in the futures market at higher prices.

Gold buyers who thought QE would promote instant hyperinflation are finding instead inflation rates dropping to zero and higher interest carrying costs.

The dollar should continue to gain as a haven, especially as protection from the euro. The strong dollar makes many commodities more expensive for businesses that operate in weakening currencies.

The yen will continue to drop against the dollar as Abe tries to turn deflation into 2 percent annual inflation and force the BoJ to double its purchases of securities.

Commodity currencies such as the Australian dollar, the Brazilian real and the Russian ruble remain vulnerable as exports and prices continue to fall.

Currency devaluations in Japan and elsewhere will be matched by competitive devaluations worldwide. No country wins in competitive devaluations as foreign trade is disrupted. In the end, most will end up devaluing against the US dollar.

Read the full article at  http://www.bloomberg.com/news/2013-06-27/did-bernanke-signal-return-of-risk-off-market-a-gary-s.html

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