The global economy is heading for a deep recession. That much is clearly being predicted by global capital markets with credit stopped and equities in free fall. But a point of maximum decline will soon be reached. However, I doubt if buying on this particular dip will prove a very good idea.
Dominique Strauss-Kahn, the IMF’s managing director, said yesterday: ‘Intensifying solvency concerns about a number of the largest US-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown.’
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And he warned global equities could plunge by a further 20 per cent this week unless governments deliver concrete action.
Looking at the G-7 meeting communique yesterday there is little sign of anything ‘concrete’. But there are going to be a lot more ad hoc actions by individual governments and my guess would be another coordinated rate cut.
The problem is that economies are now facing the pain of de-leverage – the reverse of the credit boom that accelerated economic growth. This is happening quite fast but the consequences of the damage will take years to heal in terms of business failures, personal bankruptcies and government budgets.
Rally for suckers
From an investment point of view, I expect a sucker’s rally to occur – perhaps as early as later on this week. But this rally will not hold, and those buying on the dip will be caught out as stocks move even lower. Expect our old friend Warren Buffett to be cheerfully warbling while waiting for a true market bottom. That could take two or three years.
We have a systemic financial crisis. This is very different from the normal business cycle. It also takes a lot longer to correct back again. There are more challenges to come, and not just a spate of bank and hedge fund failures.
How much US paper will global bond markets accept before the low coupon becomes unacceptable? A bond market crash will follow and the US dollar devalue very significantly. Only when the bond market bubble is deflated could markets truly be considered de-leveraged.
By then the only global investment game will be precious metals which is why buying gold and silver continues to make good sense. Nobody has yet appreciated the true depth of what the world has stumbled into but we do have precedents like 1974 and the late 70s.
In the Middle East where I live the scenario that seems most likely is a downturn that will be most dramatic in the off-plan property sector and also shake the banking sector. However, the government will be able to step in once the worst of the real estate shake-out is over, and given that oil prices will be one of the first things to recover this means that the Gulf States could survive the crisis relatively unscathed.
However, all new off-plan property projects will now either be called off or stop due to a lack of sales. The situation for gamblers with a number of part-paid properties and no liquidity is also terminal. Nobody will want to buy part-paid with the obligation to pay further installments in an uncertain market.
Luxury apartments also look an over-supplied market where prices will fall. Agents report this market has frozen, that means price falls will follow.
Oil price outlook good
But what global governments are doing to rescue the world economy is highly inflationary and this is going to have a far more immediate impact on oil and gas prices than in rescuing their bankrupt banking systems. High energy prices drive the GCC economies. Yet we can expect a sharp fall in oil prices as the global recession starts which will send some people into a panic. This will not last for long. Why?
Because inflation will be the unintended economic impact of the global financial bailout. Therefore there will only be a relatively shallow recession in the Gulf States – albeit fatal for overstretched property speculators and many real estate developers. But for those with the capacity to tough it out, this is the place that will recover first from the global recession and still have the best growth prospects for the near future.
My advice is to hold on if you are in Gulf real estate – actually you have no choice as the market became illiquid last week. Blame the world financial crisis if you like or a bubble that obviously had to correct. But if you have over-stretched, over-borrowed or got too greedy then you are in trouble.