Thursday, June 16, 2011

So it is a correction!

So it is a correction! Well what else is new? Look at the chart below and you can see that we haven't had a significant set back since March 2008 when the bear market bottomed. Since March 2008 we have gone up from 7800 to today's 13000; that is a 5200 point gain or a 67% gain! If you'd counted from March to the April peak of 14300 then we had a 6500 point gain or a 83% gain from the market bottom. Thus we dropped 10% from the peak that is a normal correction, not the end of the world.

Yes some parts of the world economy are mired in trouble like Greece and the U.S. and the U.K. Living here in Alberta at the beginning of yet another boom one does not feel today's economic pain and you want the market to rocket ahead. But reality is that some of the 2008 problems won't go away that easy and even after a two economic aspirins (QE and QE2), the pain will fade only slowly.

Consumers have woken up to the havoc created by debt used to finance their lifestyle. Using debt to finance a business or part of an investment portfolio is often highly beneficial. But spending borrowed money on vacations that give you no other return than instant gratification is economically not wise. Consumers have seen the light and are trying to reduce their debts; but reducing debt is a though job and savings go hand in hand with less consumption! It is amazing how even-handed consumers are. The savings rate in the U.S. has gone up to 4% and thus consumption has gone down (offset by a growing population). Yet consumers have not adapted the 8% savings rate of earlier decades and consequently spending has moderated not disappeared all together. I don't think we could ask for much more!

Greece is a small economy that has always been in economic dire straits similar to Spain, Portugal and Italy. These countries haven't been economic powerhouses for over a century! And what do a couple of hundred billion mean in the greater scheme of things? The Europeans are working out the issues, and I am convinced they will succeed in spite of the shrill utterances of U.S. rating agencies, who feel that they can even dictate what government should rule Belgium! Talking about Fitch and their arrogant peers; they must have completely forgotten how their 'expertise' played such a disastrous role in the financial collapse of 2008! Pppplease! The gal!

In the meantime, the economic growth in China and India has been too high and inflation is picking up it's ugly head. Although average inflation numbers may seem benign (around 4%), poor harvests and other natural disasters along with a growing and more prosperous world population have driven food price up by more than 11%! With so many low wage people in those emerging countries is it any wonder that we're getting food riots? The Chinese have increased capital requirements for their banks as well they have increased interest rates. They try to reduce the availability of credit and to slow down their economy! GDP growth has already moderated from 10% plus to now around 9%. But even if it would cool down to 6%, their economy  still grows and their demand for commodities will keep on increasing.

So in the U.S. we will have to learn to live with a more moderate pace of consumption. The high U.S. debt will probably translate in a lower dollar value, which will make U.S. manufacturing more competitive. North American manufacturing will also benefit from higher energy prices. It will become more expensive to transport manufactured goods from all over the world. The low wages of the BRIC economies won't be enough to increase the cost of transportation. Consequently, globalization in manufacturing will slow down and jobs will stay closer to the major population centers. Thus there is good and bad!

Especially combined with a shortage of workers now that baby boomers reach retirement age (this shortage will also be less than many alarmists assume) wages may show real growth. Reduced consumer debt in North America will set the stage for big windfalls by local industries that champion productivity increases through technological innovations. With manufacturing returning to North America, we will also have more control over our emissions and energy consumption – a good thing for the environment.

To me it doesn't look like the world is coming to an end but instead economic patterns are changing with many positive consequences. The recovery will continue and prosperity will return. Use this correction in the stock market as a time when stocks are 'on sale'. Buy industry leaders in manufacturing, technology, energy, mining and real estate because over the long term they're likely to perform well. BTW, I read a forecast that by 2020 50% of North America's population will suffer from diabetes type II due to our increasingly sedentary lifestyle and gluttony. So don't forget to invest in the pharmaceuticals and exercise a lot!

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