Where then must we invest when, as Ben Bernanke said, “the economic outlook 'remains unusually uncertain?” Gold seemed to confirm this uncertainty this week by reaching new highs. As usual, there are a myriad of places and assets on which you can place your bets.
Gold seems safe, since its recent moves have been in one direction, but it would be a brave investor indeed who would invest in any investment that is near its all-time high. The probabilities are not in your favor. Worse, there is one indicator that has turned bearish on gold. In a typical year, India soaks up perhaps a quarter of all the gold mined in the world. The world’s most experienced gold investors are Indian women. They are selling, not buying. Other commodities, from copper to food, seem to fluctuate with the weather or the time of year while oil has remained basically flat for most of the past year.
The bond market has, like gold, had a successful year. In the United States investors in bonds have increased their portfolios by 8%. Investors in emerging market bonds have done even better. Their wealth is up by 15%. Still, bonds suffer from the same problem as gold. It is not such a good idea to invest at the top of the market. We know that interest rates will increase at some point in time, we just don't know when. When they do, bonds and gold will suffer.
Many emerging markets have been growing rapidly. One of the best examples is India. The Indian stock market is about to achieve something very rare. It is about 6% off its all time high and has risen over 130% since its 2009 lows. While the India story, with a growth rate of almost 9% is tempting, there are some definite problems.
The largest are infrastructure bottlenecks. These have pushed inflation above 10%. Problems include corruption, feuding government ministries, sapping bureaucracy, a statist financial sector and protected retail industry, to name a few. The Reserve Bank of India’s recent actions raising interest rates will no doubt slow the economy and the stock market.
There are other economies that are doing well. The Chilean stock market is up over 30% and the Colombian stock market is up over 20%, more if valued in dollars. Latin America is experiencing growth of 5.5% as a whole.
There is also some light in developed countries. Orders in Germany’s engineering sector have surged 32%. But the improvement in Germany, Latin America, East Asia and even American multinationals all share one thing in common: China.
China is the source of the recovery for most of the world. As one German businessman put it, “Demand? It’s China, China, China by a long way, then India, Brazil, then Russia.” China is now Brazil’s main trading partner. Chile, Peru and Venezuela still rely on raw materials for more than three-quarters of their total exports and much of that goes to feed China’s seemingly insatiable appetite. Australia and Indonesia are also sending much of their mineral wealth and bolstering their economies, thanks to China’s booming economy.
All of this good news is of course dependent upon China’s growth continuing and that might be a problem. China’s recovery from the world recession was due to a massive wall of lending. These loans may have stopped China from contracting, but they have had other effects. One of the most important is inflation.
Although the headline figure for China’s inflation rate is a tame 3.5%, there are indications that it might be higher. China’s property prices rose 9.3 percent in August from a year earlier, food prices jumped 7.5% and China imported a million tons of US corn. China’s broad money supply has been increasing at an average annual rate of 25% since January 2009 and gross domestic product grew at a 12% rate in the first quarter, and just over 10 in the second quarter. There have been price rises in everything from the price of a foot-rub to a KFC meal.
China’s economic policies also have the effect of exporting surpluses to countries who really do not want them. It is not only the US who is complaining about the value of the renminbi. The Japanese yen has been the unwelcome recipient of the Chinese effort to diversify out of dollars. The Japanese finally reacted this week with unilateral currency intervention.
The Chinese economic policies are unsustainable, which is bad news for a global economy presently dependent on Chinese growth. They will most likely be stopped by either the Chinese trying to control inflation or a trade war. Either one could have a detrimental effect on a whole list of economies, with one possible exception, the United States. Which leaves us with the answer to our question. Where must one invest? The United States equity markets. Boring, but most likely to be both safe and profitable.
Disclosure: Long DGZ