Today the world economy is clearly on the path of recovery.
Economic numbers from both Europe and China, especially when combined with
those in the U.S. support this. Yet Canadian investors have yet to benefit.
While the U.S. stock market is clearly in bull market mode and with Europe’s
stocks also ahead, here in Canada we seem to live in perpetual malaise.
In general terms, we can predict the cyclicity of stock markets
and it can be roughly subdivided in five (5) stages:
1.
Crash – accompanied by emotions of denial
evolving into desperation
2.
Bottom and initial recovery – Desperation
combined with Value Investor heaven.
3.
Recovery – at this point only Value Investors
and ‘Buy & Hold’ investors are in the market (this is where we are in
Europe and Asia).
4.
Advanced recovery – the easy gains have been
made and the general investor public returns to buy stocks (that is where we
are right now in the U.S.).
5.
Euphoria – Everybody feels like a genius ‘the
market can only go up’; ‘New economy’ – time to take profits and build up ‘cash
for the coming crash’.
So where does Canada fit?
In spite of all the talk about globalization, not all local economies are
created equal. The U.S. is a service and manufacturing economy predominantly
and lately it has become more diversified due to the energy revolution and commodities
are becoming more important. But rather
than hoping for higher commodity prices, the overall U.S. economy benefits from cheap commodity prices (low natural gas and oil prices in particular). Although they produce commodities, farming (grains, vegetables, and fruit) and
to a lesser degree ranching (cattle and other livestock) also benefit from cheap potash and energy prices.
Europe’s economy is another commodity consuming economy that
is weighted towards services and manufacturing. Europe also does best when
commodities and interest rates are low. Now that it has put some Band-Aids on
its credit markets Europe is clearly recovering.
China and some other emerging economies are, in spite of
their huge populations, strictly manufacturing and exporting economies. They need
consumer demand from the rest of the world AND low commodity prices. Although gradually turning into consumer economies like the west, these emerging economies are still heavily dependent on growing demand from Europe and the U.S.
whom together constitute close to 50% of the world economy – especially when
you include Japan!
Only when the manufacturing and export economies do well
will demand for commodities increase. Canada did great coming out of the 2008
financial crises but stock markets overshot economic reality in 2011 when the
TSX reached a peak of 14,000. I warned in this blog that we had moved too fast
based on my rough estimate that our market is likely approaching ‘crash
territory’ at a TSX of 18,000 to 19,000 and that a TSX at 14,000 was way too
early in the stock market cycle.
Canada was rewarded with a relative mild recession in 2008
thanks to our great fiscal position at the time – budget surpluses and
acceptable government debt levels. We also had the strongest banking sector in
the world. But elsewhere the financial
crisis did hit much harder and demand for commodities crashed. That is why
Canadian markets have flattened in performance since 2011. Our banks were fully valued. But other
financials such as insurance companies (Great West Life, Manulife, etc.) were
suffering because of artificially low interest rates and poor stock
markets. And the resource industry… just
went into shambles. In particular gas which not only suffered declining
demand but also the ‘benefits’ of the new energy revolution. It is a wonder
that oil prices haven’t collapsed like natural gas. Just imagine what oil prices could be if the
world economies are running full tilt!
I still think that for good world economic growth not only
interest rates determine how well we’re doing; energy pricing is nearly as
important, or if you a follower of Jeff Rubin energy prices are MORE
important than interest rates. On this blog we feel that oil prices of $125 or higher will destroy economic growth – in the future this
price cap is likely to go up with worldwide inflation.
But just like, as described in an earlier blog, the Chinese
and other emerging economies cannot do well when Europe and the U.S. aren’t;
Canada with its dependence on the resource industry needs all three big economies
to do well. Canada does well in the last stage of the world’s business cycle.I think the statement that the 21st century belongs to China is greatly exaggerated. That country has tremendous problems to overcome. Europe, the U.S. and of course Japan are hard to beat. But we need prosperity in all these economies before Canada (and Australia) will fire on all four cylinders. When this happens, let your Canadian profits run but use trailing stop losses because the world will be close to a crash – my guess is that we’ll be there in 2016 and that 2014 and 2015 will be terrific years for Canada.
For now, my investment emphasis lies on the U.S. and I have diversified a bit Europe. Investing in the raw stock markets of emerging companies is too much for my stomach. I wish those who venture their all the luck.
So Canada is a bit of the 'Canary in the coal mine'. When Canada’s stock markets are booming and oil prices hover around $125 per barrel then hold on to your hat because the crash is coming near.
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