What on earth is happening?

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What is going on with the sharemarket!? There seems to be several camps with ready answers – but I may not have enough grains of salt for each of them.

What on earth is happening?

Banker of Last Retort

The sharemarket is bouncing around like a two year-year old mainlining raspberry cordial – falling 7% one day and rising by 5% the next, spiking by 1% in a morning then diving 2% in the afternoon. 

Precisely why I offered to provide an opinion about the increasingly erratic sharemarket – when a moment’s reflection would have informed me that I had absolutely no idea – is now a mystery.

Be that as it may, having promised, I will do my best.

Two years ago, sharemarket chat addressed the merits of particular stocks. Today, the likely topic is simply ‘up’ or ‘down’ – bull or bear. Running through the main cast of characters, we have:

The traditional pessimists. They believe that the US, Britain, and Japan are on the brink of recession, and that when they fall, so will the Australian economy. They believe that the economy will soon need fiscal stimulation (smaller surpluses) and stimulatory monetary policy (lower interest rates and easier credit).

The decoupling optimists. They believe that the BRIC countries (Brazil, Russia, India and China) have established a ‘breakaway’ new world economy that will continue to thrive despite recession in the UK and US. They argue that Australia is part of this “new economic world order” and will likewise avoid recession. Inflation is the main danger in their eyes, and they want the Government to increase budget surpluses and tighten monetary policy.

(Astute observers will recognise that these two are diametrically opposite problems and solutions, and that if the wrong solution is applied it will act directly to make the problem worse – a dilemma for policy makers).

The traditional optimists. They also believe the US, Britain, and Japan are teetering on the brink of recession – but believe that the US rate cuts will solve, rather than defer, the problem. Your correspondent wonders if these folk also believe in the tooth fairy and the Easter bunny.

The partial-decoupling pessimists. This group agree that it is nonsense to view an economy as disconnected from the rest of the world but believe that there is partial decoupling that will create a lag effect. They think that Australia is odds-on to get either a recession or inflation, and that if we are really unlucky we’ll end up with both (stagflation).

The partial-decoupling optimists. They believe that the US recession will take just enough heat from our economy to avoid inflation and that a bumper harvest (now that the drought appears to be over) will provide enough stimulation to avoid recession.

(This last tip-toe through the minefield scenario is feasible – but it relies on coincidental timing, and perfect management by a tyro Treasurer and tyro Reserve Bank Governor – which seems simply too much to hope for).

The Buffett/Grahamists. Benjamin (not Billy) Graham is the Moses to the Messiah Buffett. This is an evangelical group that believes that falling stock prices are always a wonderful buying opportunity for the long run. Undoubtedly this is true but it does step around the question of whether there might be a better investment option in the short term.

What seems to be going on is this: Any skerrick of bad news convinces the pessimists that the end of the world is nigh and they sell as if their lives depended on it. The optimists and Buffett/Grahamists then charge in to take advantage of the lower prices which leads to a spike, resulting in a sawtooth effect.

The broad pattern however does appear to be a sawtooth heading down, not up. In his next blog your correspondent will endeavour to explain how margin lending and highly leveraged investment products link the credit market to the equity market and why the credit squeeze will continue, and continue to push the equity markets down.

Disclosure of interest: BoLR transferred a significant proportion of his portfolio out of the sharemarket far too early. Embittered by lost profits he is now attempting to talk the market down so that he may re-enter at bargain basement prices.


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