Is the market overly concerned?

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Last week saw a massive sell-off of risk assets. Many analysts believe this was triggered in part by market concerns over global economic growth. Other factors named are doubts about the financial stability of China, Argentina’s renewed financial and economic woes, political instability in Turkey, Thailand and Ukraine and rebalancing of hedge fund portfolios. What the real reason is, we will of course never know, as the market is made up of many, many parties, each with their own reasons to buy or sell. But looking at the strength of the global economy, I see little reason for concern. I think most of the data published last week actually supports our view that growth is accelerating. So if concerns about global economic growth really were a major driver of last week’s sell-off, the market looks oversold to me.

Looking at the strength of the global economy, I see little reason for concern. Han de Jong Han de Jong Chief Economist

Taking the economy’s pulse: global trade picking up
We have been arguing for some time now that the logical conclusion to be drawn from the data is that the global economy is gaining momentum and that leading indicators of global trade, which as it were take the economy’s pulse, signal accelerating growth. Various purchasing managers’ indices (PMIs) show that order books, including export orders, have been improving dramatically. Based on trade figures from a large set of countries, CPB (our country’s Bureau for Economic Policy Analysis) compiles monthly global trade statistics. By definition, of course, this series slightly lags the current situation, but it is starting to confirm what the rules of logic dictate and what our leading indicators have been telling us for some time. CPB published its November figures last week. The international trade statistics are pretty volatile, but if we normalise them slightly, it becomes clear that the global economy is gearing up. Strong numbers were also seen last week from Taiwan, a traditionally pro-cyclical economy: export orders jumped by 7% y o y in December, and industrial output surged by just over 5%. Both growth rates were the highest  seen in some time. Even in Italy, not the most competitive of economies, industry is reporting an upturn in orders: +2.3% m-o-m and +3.0% y-o-y in November. This is the  third consecutive month that Italy’s industrial order book has shown positive y-o-y growth, a phenomenon not seen since the summer of 2011.

20140127 Wereldhandel

20140127 Italie Industriele orders

Last week I attended a lunch in Antwerp to which our local people had invited some of their best clients from various sectors. At one point I was seated next to the CEO of an industrial firm, although with my limited technical expertise I did not quite understand what his company makes. He told me that his order book had never been so full. Anecdotal evidence, of course, but still….

PMIs raising concerns
Economy watchers, meanwhile, were fretting over disappointing Chinese and US PMI numbers. HSBC’s PMI for Chinese industry dropped from 50.5 in December to 49.6 in January. Not encouraging, but there are a few things to remember before we start panicking. First of all, this PMI is not the best measure of China’s economic health. In our view, the official PMI, which will be published on 1 February, is a better one. Secondly, Chinese data in the first few months of the year may be slightly affected by Chinese New Year, which was celebrated on 31 January, a week and a half earlier than in 2013. Other Chinese data appearing in the past week show that growth rates for GDP, retail sales and industrial output are all levelling off slightly. Export growth, on the other hand, is actually picking up. We maintain that the economy should grow at a good rate, supported by accelerating global trade and industrial output. Reforms are likely to have a dampening effect on growth, but by the time they kick in it will be 2015. A threat to China is loss of competitiveness as the currencies of its neighbours depreciate.

The Markit PMI for US industry fell from 54.4 in December to 53.7 in January. Another disappointment, but one that needs further explanation, I think. Firstly, the country was in the grips of polar winds in January that made life very uncomfortable for many Americans and disrupted economic activity. This, at least, is what the notes to the Markit figures tell us. Secondly, and I pointed this out last week as well, inventory levels are relatively high. A correction at some point is inevitable, and this leads to stalling output growth.

Other US data looked quite strong to me. In December, for the first time in four months, existing home sales climbed. Possibly, the fears that arose last summer in reaction to the sharp uptick in mortage costs have now subsided. Average house prices have also edged higher. Initial jobless claims, at 326,000, were broadly unchanged from November and close to the average in the past six months. The number of continuing jobless claims peaked early this year. I am inclined to attribute this to the cold snap. In that light, the failure of  initial jobless claims to follow the same trend is what surprises me.

Extreme weather conditions in the US early this year have clearly impacted economic performance. We expect this to be reflected in much of the January data. That means February data should be significantly better – unless temperatures plummet again, of course,

Europe surprises on the upside
While the US is struggling with extreme cold this winter, Europe’s weather is unseasonably mild. The weeds in my garden just keep on growing, a problem I would not normally need to worry about this time of year. Could the mild weather be distorting European data? At any rate, last week’s data were broadly better than expected. Flash PMIs for January, a key business confidence indicator, were without exception ahead of expectations. The PMI for eurozone industry climbed from 52.7 in December to 53.9, its highest level since May 2011. From its 44.0 low in July 2012, the PMI has (barring a few fluctuations) been moving steadily upwards. The rate of increase, moreover, has accelerated. Furthermore, the PMI for services also finally edged up again in January after three consecutive months of decline. Also encouraging is the uptrend of French PMIs. The industry PMI rose again following five months of weakness. The bad news, however, is that the absolute level, at 48.8 (47.0 in December), still signals contraction. That said, an analysis by my colleague Aline Schuiling shows that there is something strange about these figures. The absolute level of French PMIs does not seem to reflect actual economic growth. The “neutral” level, indicating that the economy is neither growing nor contracting, is normally 50.0. In France it appears to be much lower, as low as 44. The conclusion we should draw from this is that the direction in which the series is heading says more than the absolute numbers.

20140127 Eurozone

Dutch data finally improving
The Dutch economy has been struggling in recent years. The Netherlands underperformed comparable countries as a consequence of its deflating housing bubble. Recent figures show, however, that recovery has begun. Consumer confidence, markedly stronger in January, is now above its ten-year average and not far below the average for the entire series going back to 1986. And confidence is likely to increase further, as tax changes and lower pension premiums for civil servants means many people will be seeing higher earnings on their monthly payslip. Year on year, private consumption in real terms  rose for the first time since November 2011. Good news, but nothing to cheer about, as consumer spending was at an extreme low early last year. Other good news is that prices of Dutch homes rose by 0.5% m-o-m  in December,  while the y-o-y decline slowed from -4.,7% to -3.7%. These are signs of a stabilising housing market. On the other hand, unemployment has risen alarmingly, from 8.2% in November to 8.5% in December. This first increase after four months of easing unemployment is probably attributable to the reversal of the recent trend that saw unemployed people withdrawing from the labour market.

20140127 Nederlands consumentenvertrouwen

I will cry for you, Argentina
It has taken longer than I expected, but Argentina’s unorthodox economic policy now seems to have run aground. In the wake of the 2001 crisis, several administrations led first by Mr and then by Mrs  Kirchner have been pursuing policy that you could indeed call unorthodox. Economic data was massaged here and there, prudent budgeting was low on their list of priorities, relationships with financiers were never fully mended and capital flows were restricted. The Kirchner administrations nevertheless succeeded in getting the economy back on its feet after the crisis and posting what seemed to be decent growth figures. Their misspending of resources has ultimately caught up with them, however. Confidence has been profoundly shaken and despite restrictions capital is fleeing the country. Import restrictions, meanwhile, have led to shortages and hefty inflation. The peso nosedived last week after the central bank was forced to give up the dollar peg in an attempt to protect the country’s depleted dollar reserves. We can only hope those in power regain control of the situation, but it will be a challenge to correct imbalances that have been years in the making. The peso may well sink far lower still, leading to runaway inflation, or even worse, a severe recession. Under these circumstances, it would not take much to tip Argentina into chaos and a new default. We shall see. Which reminds me that only two years ago, there were market watchers urging Greece to follow the Argentine route. The coming months will tell how attractive that route really is.

Developments in Argentina are likely to have contributed to last week’s sell-off of risk assets. However, this is more than anything a matter of psychology. It is obvious that Argentina is an absolutely unique case, and it is therefore very curious that the country is being viewed as a source of contagion for other emerging economies.

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