The recent market bull run reminded me of an extremely interesting by Jonathan Wilmot in late 2010. Wilmot argued that a combination of low rates and high growth will allow the fitter parts of the global economy to gradually pull the weaker parts out of their post bubblle slump. The recent market action certainly proved him right.
"In the developed world, corporate profits are back on the moon, labour incomeis growing again and discretionary private spending near multi-decade lows.Logically, we should all be expecting private sector spending to boom notgloom.But that's hardly been the mood of the summer.Instead, the "uncertainty shocks" of the spring months rekindled the gutteringflame of fear in investor minds, steadily accelerating the shift to safer, moreliquid, more tail risk conscious portfolios.The flows have been massive, leaving developed equities looking cheaper thanemerging equities and very cheap versus developed bonds.This collective failure of nerve is profound, and profoundly dangerous, in ourview. But it has a huge silver lining. It has put policymakers firmly back in thelove business, which is actually where they belong, given how much economicslack there is still left in the system. Exit strategies are in the deep freeze.Indeed, it goes beyond that. QE2 is not just about trying to supply the almostinsatiable demand for safety in the system, it's about trying to lock the Fed intoa promise to keep real interest rates on the floor until the level of activity hasconverged back towards trend.Via the currency channel, Fed Chairman Bernanke is in effect almost forcingother major central banks (and perhaps some of his own colleagues) to join in ahistorical experiment in monetary policy - even as signs emerge that globalgrowth in August and September has improved from the June/July swoon.Which suggests the following paradox:That the next boom in the West will be based on the likelihood of above-trendgrowth in private spending as savings rates and animal spirits graduallynormalise, combined with abnormally low real policy rates and bond yields.For a (very) extended period.This is a scenario under which the fitter parts of the global economy graduallypull the weaker parts out of their post-bubble slump, with inflation risks largelyconfined to the emerging world and parts of the commodity complex.Lets call it "High Growth with Low Real Rates" for short.Now that would be a rarely spotted but potentially very bullish animal, though inthe end, much more so for equities than for bonds. And especially for secureyield, quality growth and deep value."
He also disagrees with the three myths of what he describes as a structural pessimism:
"These low spirits often seen to flow from what we call the three myths:
• That US consumers are overleveraged;
• That governments debt levels are already insupportable; and
• That potential growth in the West is set for a (rapid) structural decline.
We don't believe any of them.To the contrary, we think US consumers might now be underleveraged; that in the end this crisis may do more to put government finances on a sustainable track than any amount of mindless prosperity could have; and that a whole range of new technologies will likely contribute to faster trend productivity growth in the future, while changing work patterns(notably later, more flexible retirement) will lead to a much smaller decline in labour force growth than most people expect. Indeed, once the robot revolution takes off, potential growth might actually end up higher than it is now."
Time will tell, but when I read those arguments this picture comes to my mind:
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.