China is growing lethargic, Europe is barely keeping its head above water, Japan too, and numerous petro states are suffering mightily, not to mention Russia, which could contract by as much as 4% in 2015 if oil prices stay where they are. That and the World Bank recently cut its forecast for global growth this year. The narrative here is not exactly uplifting.
Well, while all the above is true, things aren't exactly as ostensibly awful as the aforementioned alludes. For one: China is slowing, and what that means is they will still expand by just over 7% in 2015 (the IMF pegs them at 6.8%), a far cry from the (unsustainable) double digits they've been accustomed to for the last two decades. The 19-nation Euro area will still expand, albeit by an anemic 1.1%, with Japan projected at 1.2%. And that World Bank cut in its growth forecast? It was lowered to 3%, down from the 3.4% originally thought (though the IMF just released they see growth hitting 3.5%). These aren't robust figures, but they don't exactly prognosticate the gloom and doom either that seems to be in vogue at the moment. Not to mention, it appears the European Central Bank is about to embark on the easy monetary policy and highly stimulative approach that has proved so far successful by the U.S. Federal Reserve.
The U.S. however appears to be the cleanest shirt in a dirty laundry hamper. Among other positive economic indicators, the American economy was upgraded by the World Bank to a 3.2% (IMF pegs the U.S. at 3.6%) growth projection in 2015 after seeing growth of 4.6% and 5.0% in the second and third quarter of 2014, respectively. While the encouraging U.S. data isn't entirely offsetting the rest of the world's laggards, it has U.S. investors hopeful that continued earnings growth and multiple expansion should ensue.
Are commodity prices portending serious demand issues?
Investors have been leery that a recent decline in many commodity prices could be a harbinger for demand concerns and continuing deflationary pressure. Copper, commonly viewed as a bellwether for industrial demand and growth, has fallen exceptionally hard as of late, in tandem with some of its peers. It hit a low of $2.15 a pound last week, a price range not seen since 2009:
However, the U.S market has not followed suit. It's been volatile, certainly, but still rests within striking distance of all-time highs. How can this be? I would contend that copper isn't as relevant a proxy for economic growth in advanced economies as it once was. This attributed to the continued marginalization of the industry in favor of the services sector that is expanding on the back of technology. It is the services industry that has clearly taken the forefront in Western nations and is the bedrock of not only their economies but their continued accretion, with China unsurprisingly going against this trend at the moment. A list of the world's top ten economies and a breakdown of their sector contributions to GDP more accurately elucidates this assertion:
This recent plummet in copper has largely been tied to the Chinese slowdown and soft world economic forecasts. So, as a proxy for industry, copper appears to be behaving somewhat rationally. But again, the aforementioned displays just how disproportionate GDP output is by the services sector. Copper is not an overwhelmingly accurate proxy of this, especially in light of the ever-expanding tech industry and services that predicate themselves upon it. There may be a new harbinger on the horizon that more accurately depicts the health of the services sector.
A new proxy for advanced economies
Semiconductors, in short, are the integral and critical components of all technology, computers and electronics, and they're healthily on the rise, a trend that appears will continue throughout the end of this decade. The corollary between the semiconductors market and market returns over the last five years has been very strong, as both have moved in near unison. The blue line represents the S&P 500, the red the iShares Semiconductor Sector Index Fund (NASDAQ:SOXX), and the light purple the iPath Copper Total Return Index ETN (NYSJJC):
As one can see, there is quite a bifurcation going on between the historic canary in the coal mine that is copper and S&P performance. As semiconductors have gone, the market has appeared to have followed. This trend will likely be inexorable going forward and be even more apparent as the world increasingly utilizes and leverages technology for economic output. Even industrial sector powerhouses like China are attempting to move away from their unsustainable investment-led model and attempting to transition to a more consumer-led, services-based one as a previous one of my articles described in greater detail.
The plummet in copper is not the most sanguine of scenarios for global growth, and investors are right to be cautious about deflationary concerns and demand issues. However, the behavior of this benchmark is simply not the crucial indicator it once was and needs to be contextualized for economies that are not reliant on industrial-led economic expansion. Conversely, expect technology's footprint to only continue to get bigger and bigger, and with that, so will semiconductor manufacturing and utilization.
Considering the concurrent downturn in many commodities, in conjunction with a China slowdown, it appears construction/raw materials and industry investments as a whole may be something to avoid for the time being. However a service sector-oriented investment, especially in the U.S., appears to be robust and continuing its recovery. And going forward, pay attention to the semiconductor industry, as this critical component may provide a more illuminating light for the U.S. and a world that should be continued to be ruled by the services economy.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.