Time for a ‘melt-up': the coming global boom
Get ready for a “melt-up.”
Back in mid-October, as stock markets around the world plunged faster than at any time since 2011, many investors and economists feared a meltdown. But with the U.S. economy steadily expanding, monetary and fiscal policies becoming more stimulative in other parts of the world and the autumn season for financial crises now over, a melt-up seems far more likely.
There are many fundamental reasons for believing that stock markets may have embarked on a long-term bull market comparable to those in the 1950s and 1960s, or the 1980s and 1990s, and that this process is nearer its beginning than its end. Such arguments have been discussed repeatedly in this column over the past 18 months — ever since the Standard & Poor’s 500, the world’s most important stock-market index, broke out of a 13-year trading range and started scaling new highs in March 2013. Wall Street has been setting records ever since.
These are the four most important arguments for a structural bull market:
First and foremost, the worst financial and economic crisis in living memory has ended, and most parts of the world economy are enjoying decent, if unspectacular, growth. Second, economic and financial policies around the world, though far from perfect, are highly predictable and therefore unlikely to cause further market disruptions. Third, technology is continually advancing and innovation is creating new products, services and processes that stimulate both investment and consumer demand. Finally, inflation is almost nonexistent, at least in the advanced economies, meaning interest rates are guaranteed to stay low for a very long time.
Even in such benign conditions, minor corrections and panics are bound to happen. Financial markets always move in boom-bust cycles, as greed alternates with fear. We saw this in early October, when Wall Street fell by 10 percent in three weeks and equity prices in Europe plunged by almost 20 percent in relation to the U.S. dollar. Such setbacks, however, actually reinforce the uptrend if the fears that triggered them turn out to be illusory — or less daunting than they first appeared. That is exactly what has happened.
There were two obvious catalysts for last month’s stock-market retreat: a sudden drop in oil prices and a run of dismal economic figures from Europe and Japan. The first problem was never likely to prove more than a temporary hiccup because falling oil prices are, on balance, beneficial to consumption and corporate profits — even if they hurt energy-producing companies and countries.
By contrast, the second problem — slumping economies in Europe and Japan — threatened investors with a genuine nightmare. No matter how well the U.S. economy might perform, global businesses could not shrug off a possible recession in Europe and Japan, especially if the governments or central banks in these countries refused to follow the U.S. model of fiscal and monetary stimulus to revive growth.
Luckily, the policy paralysis in Europe and Japan has now been broken and that, in turn, means that the risk of these vital regions falling back into recession is smaller than a month ago.
The most impressive sign of new policy dynamism came from Japan, with its dramatic Oct. 31 announcement that the Bank of Japan would substantially increase its already enormous monetary expansion, while the $1.2-trillion Government Pension and Investment Fund would more than double its allocation to equities and foreign bonds.
These stimulus measures have been supplemented by reports that Japanese Prime Minister Shinzo Abe might delay a tax increase planned for next October and could even call an early general election to give himself more freedom to pursue additional reforms. Abe seems to have reverted to full-scale stimulus policies after his misguided effort at fiscal tightening in April.
As a result, the favorable economic conditions of 2013 are likely to be restored in Japan next year. Investor pessimism caused by April’s tax hike has vanished — and rightly so. When the facts change, people should change their minds.
An equally surprising, though less decisive, shift toward active policy stimulus is taking place in Europe, revealed by two recent events: last Thursday’s European Central Bank meeting and the previous week’s announcement that the French and Italian governments would run bigger budget deficits than the European Commission had previously demanded under euro zone fiscal rules.
The European Commission, by accepting the two countries’ budget plans and ignoring German demands for tougher austerity, signalled the end of the fiscal tightening that has been a major obstacle to European economic recovery. The European Central Bank’s announcement was even more significant. European Central Bank President Mario Draghi explicitly committed himself for the first time to a 1-trillion euro expansion of the bank’s balance sheet and promised to take whatever measures were necessary to achieve this. This statement effectively meant that the central bank had finally agreed to implement large-scale quantitative easing — albeit employing different techniques from those used in the United States, Japan and Britain.
The fact that Europe and Japan are finally ready to follow the U.S. fiscal road map will not suddenly remove all the obstacles to growth in these economies. But it will make structural reforms easier and more effective. The prospects for a sustainable global expansion are therefore much brighter than expected a month ago.
This improvement in the global economic outlook is more than enough to justify the powerful rebound in stock markets since mid-October.
Even if economic conditions continue improving, equity prices are bound to fall sharply at some point, inflicting painful losses on investors. This is what happened in 1987, roughly five years into the last structural bull market. Boom-bust cycles are inevitable because improving economic conditions encourage speculative excesses, which are then blown away as greed gives way to fear.
But the bust cannot come before the boom — and global economic conditions suggest that a full-scale stock-market boom may be just starting.
PHOTO : European Central Bank Governor Mario Draghi speaks at a news conference during the World Bank/IMF annual meetings in Washington October 11, 2014. REUTERS/Joshua Roberts