While the US is seeking to reduce the pace of QE via tapering, Europe maintains a watchful eye over deflationary forces and may yet engage in some form of easing. In combination all of this has led to financial repression of savers in order to bail out the debtors of the last crisis, in effect delivering negative real interest rates to those that did not engage in speculative excess.
Another outcome of this policy is that the “creative destruction” that 20th century economist Joseph Schumpeter described has been deferred, as a raft of companies that should have disappeared have managed to limp on.
It has been striking how economic data being posted by the developed world appears to be consistently better than expected, so it remains somewhat confusing to have central banks behaving in such a dovish manner given that the crisis peak was five years ago.
Financial markets also appear to be confused, with great returns coming from the developed equity and bond markets from the lows of 2009. Coming into 2014 investor sentiment was extremely bullish as forecasts for economic growth looked good, particularly that emanating from the US.
The irony about this is that we have seen quite a weak start to the year in terms of equity market performance. Perhaps this is an overbought market that needed a little froth blown off it, or perhaps we are transitioning to a different environment that may require a different portfolio. This is tricky. An area that appears to need dovish levels of monetary policy is the emerging world. It may surprise some that the emerging market underperformance some commentators are writing about actually began in 2011 as China sought to alter the composition of its growth.
The effect of these policies appears to have slowed China down to a more suitable level of growth, or perhaps – as the bears may suggest – this was going to happen anyway, irrespective of the policymakers.
It is, however, remarkable that in little time the emerging markets narrative appears to have altered from ‘decoupling’ to an impending rerun of the 1997 Asian crisis. Having experienced the 1997 version it is remarkable how some of the circumstances that apparently led to this do appear in evidence. Notably there is evidence of credit-fuelled growth, particularly in China.
From our point of view these markets look more interesting from a valuation point of view than a year ago, but we are not yet ready to dismiss the idea that they might get cheaper yet. A fund manager that we invest with has put forward a pretty persuasive argument that the first wave of weakness in emerging markets is occurring, with the weakest links of Turkey, South Africa, India and Brazil experiencing a torrid time through their stockmarkets and currencies.
Furthermore, depreciating currencies have led to import-dependent economies having to pay more for the same goods: inflation is picking up, which means the central banks have been forced to raise interest rates. This seems like a normal response to inflation, but the problem is that each of these economies were experiencing disappointing growth, so the last thing they would want is tighter monetary policy.
Marcus Brookes is head of Cazenove's multi-manager team
