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    Gavekal Research

    A Post-Volatility World

    These are words that I utter with the utmost caution—this time, it really is different. I refer not to central bankers’ scurrilous efforts at monetary debasement, nor the spineless diplomacy of European political leaders, or even the cult of celebrity in the age of social media. In some guise, we have seen all of this before. No, dear reader, for something genuinely new to the modern experience, consider the right hand side of the chart below...

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    Five Corners (22 April): Global Trade

    Overview: Charles Gave argues that an era of globalization and expanding world trade is coming to an end. On balance, he says this is no bad thing. United States: The negative impact of the strong dollar on US exporters will become clear once disruption from the early year port strikes on the US West Coast clear up according to Will Denyer and Tan Kai Xian. Europe: Europe’s huge trade surplus is purely a German issue. François-Xavier Chauchat...

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    Drop The Dollar Hedge

    The United States represents more than half of global equity benchmarks (58% of the developed-market world MSCI and 52% of the all-country version). So the key question every global equity investor must answer is whether to be overweight or underweight the US?

    5
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    Gavekal Research

    5C United States: Competitiveness Lost

    We must be in a global recession! At least that is the conclusion an investor might draw if looking only at US trade data. US import and export volumes both collapsed by an annualized –25% in the first two months of the year, something not seen since the 2008 recession, and 2001 before that. An assessment of trade values would result in an even worse conclusion being drawn—a deflationary depression is underway. The truth is that the situation...

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    Gavekal Research

    5C Overview: Why The Coming Collapse Of World Trade Should Be Celebrated

    Sustained economic growth has always gone hand-in-hand with a big rise in communications infrastructure. To explain why, assume that a country has two cities, named A and B. At the point that a modern communication infrastructure is built (road, trains, internet) then, in each case, a single line of communication is needed. Three cities implies the need for three lines; a fourth city means six lines. Ultimately, if all the cities are to...

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    Five Corners (8 April): The Outlook For Bank Earnings

    Overview: With banks’ earnings squeezed on one side by flat yield curves, and on the other by tech companies encroaching on their traditional consumer-facing business lines, Louis wonders where the banking sector will generate future earnings growth United States: Doing More With A Flatter Yield Curve: Now consumers have deleveraged, and with strengthening demand set to drive a pick-up in corporate investment, Will argues that earnings growth...

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    Gavekal Research

    The US Market’s Silver Lining

    We are no bulls on the US market. Even if growth remains solid, our view is that US equities will struggle to post yet another year of outperformance given that valuations are already stretched, the Federal Reserve is no longer the easiest central bank in town, and the US dollar is no longer super-competitive (see Does It Still Make Sense to Overweight the US? and Turning Cautious On US Equities). Even worse, decent growth is not a given. While...

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    Gavekal Research

    Three Brothers In Arms: Wicksell, Schumpeter And Fisher

    I am often asked which of the great economists best understood the link between the economy and financial markets. Passing judgment on such giants may be presumptuous, but practical men and women of finance may want to consider being slaves to the following propagators of ideas:

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    Gavekal Research

    One Belt, One Road, One Grand Strategy

    In what can only be described as a triumph for Chinese financial diplomacy, some 48 countries had defied US disapproval to sign up for Beijing’s new Asian Infrastructure Investment Bank by yesterday’s deadline. The applicants included not only Europe’s big four economies, but staunch US allies such as Saudi Arabia, geopolitical rivals like India, and even Taiwan, which China does not recognize as a separate country.

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    Gavekal Research

    The Darkest Hour Before Euro Dawn

    Two weeks ago we suggested that the euro’s decline against the US dollar—probably the clearest consensus trade of 2015—could soon be over. As luck would have it, we published this article on the very day the euro rebounded from a 12-year low against the US dollar of US$1.05 (see Beware The Euro Consensus). Dumb luck of this kind is certainly not evidence of wisdom or special insight. But now that the modest bounce following the euro’s March 13...

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    Gavekal Research

    5C US: Doing More With A Flatter Yield Curve

    Banks borrow short and lend long. Hence profits are a function of a) the steepness of the yield curve, and b) how much risk (and return) banks are willing and able to reach for at the long end of the curve—taking either duration risk or credit risk, or both. With this in mind, we consider earnings potential in the three key areas:

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    Gavekal Research

    Exogenous vs Endogenous Shocks

    Markets can be hit either by endogenous shocks (they collapse suddenly because of the build-up of internal excesses—think the 2000 tech bubble, the 2008 US mortgage crisis, or the 2011-12 eurozone crisis) or by exogenous shocks (9/11 in the US, or the price of oil shooting up from US$100/bbl to US$150/bbl in 2008 following the Sichuan earthquake and preceding the Beijing Olympics). This raises the question how investors should view...

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    Gavekal Research

    The Divergence In Market Action

    After yesterday’s trading action, the S&P 500 is now broadly flat for the year so far, and stands at the same level as on November 21. Interestingly, over the past 26 days since February 17, the US index has not managed to string together two consecutive days of gains. In other words, US equities are now adding more volatility and less returns to portfolios. That’s hardly the combination that most investors are looking for. In contrast, the...

    3
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    Gavekal Research

    The Fed’s New Policy: Zero Real Rates

    The Federal Reserve is convinced that the US is not turning Japanese—even though the US consumer price index was flat in February compared with a year ago, having fallen -0.1% in January. Once the effects of lower oil prices abate, the Fed expects inflation to head back toward its 2% target. Whether policymakers are right about this inflation outlook means everything for the trajectory of future policy rate hikes, for two reasons:

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    Gavekal Research

    Five Corners (25 March): Where To Find Value

    Overview: Louis deconstructs the cycle across different regions to work out what investment strategies should work best, and where. North America: David Hay argues that the Canadian dollar may be nearing its trough, and if so, that Canadian REITs offer compelling value. Europe: Turkish assets have suffered recently. But with cheaper oil and a recovery in European demand emerging, Cedric makes the case for an impending rebound. China: With yields...

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    Gavekal Research

    All 21st Century Roads Lead To...

    With trillions of US dollars’ worth of transactions every day, the G7 foreign exchange markets are supposed to be the most liquid, least prone to manipulation, markets out there. Even so, the five day rate of change of the EUR-US$ exchange rate has lately fluctuated in the +5% to -3% range usually only seen at times of deep market crisis. As a result, most investors, or companies looking at their budgets and sales projections for the second...

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    Gavekal Research

    Trying To Measure The US Dollar Short Position

    It seems to be conventional wisdom that the long-dollar trade has become worryingly “crowded”. That was certainly the message after last week’s none too startling language tweak by the Federal Reserve produced a frantic dash out of the unit. But as ever, there is what you see, and what you don’t. In this case, what is obscured may be of far greater significance than what is visible in plain sight. Here is why:

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    Gavekal Research

    5C Overview: Three Regions, Three Strategies

    Fundamentally, there are three ways to make money in financial markets: Momentum trades: ideally buying high and selling higher. Return to the mean trades: ideally buying low and selling higher. Carry trades: borrowing short to lend long.

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    Gavekal Research

    5C North America: Northern Exposure

    The Canadian dollar is currently trading at CAD1.25 to the US dollar, some 20% weaker than in early 2013 and back at levels last seen in the darkest days of the global financial crisis. Following the collapse in energy prices, some believe the loonie is set to weaken even further, towards the CAD1.60 levels touched in the early 2000’s, when the currency was nicknamed by Americans “the northern peso”, and Canada itself dubbed “the banana...

    0
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    Gavekal Research

    London Seminar March 2015 - Anatole, François, Andrew & Charles

    We held our main spring seminar in London on March 17 with Anatole, François, Andrew and Charles offering their views of the global economic pulse and recent market and central bank developments.

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    Gavekal Research

    Asia Is Not So Scary

    One reason we have received push-back on our call to overweight Asian equities has been the risks associated with a major US dollar spike. Asia has not racked up foreign currency debt at the rate seen in recent years since just before the region’s financial crisis in 1997. Still, we would argue that there are sufficient differences this time around to think that Asia can generate strong performance on lower volatility over the coming year.

    1
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    Gavekal Research

    Who Gains When The Fed Hikes?

    The Fed has lost patience in words only, not in deeds. In its statement yesterday the Federal Open Market Committee dropped its linguistic backstop—the word “patient”—indicating that the first rate rise since 2006 could come as early as June (remember, Fed chair Janet Yellen defined “patience” as meaning there would be no rate hike for at least two meetings after the word’s use). But the underlying message the market took away yesterday is that...

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    Gavekal Research

    The US Corporate Profit Paradox

    The US equity market is richly valued and faces a buffeting headwind in the shape of the soaring dollar. Our recommendation in recent months has been to dial back exposure, but committed investors should stay concentrated in domestic plays rather than firms with a big reliance on international earnings (see Turning Cautious On US Equities). Such a portfolio orientation was borne out by generally weak 4Q14 corporate earnings. But a key part of...

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  • Gavekal Research

    Beware The Euro Consensus

    The US dollar is hitting new 12-year highs almost daily and the euro seems to be plunging inexorably to below parity. Recent events in the foreign exchange markets seem to have a fairly obvious explanation which most economists and policymakers accept and endorse. President Hollande, for one, has embraced the plunging euro: “It makes things nice and clear: one euro equals a dollar,” he told an audience of industrialists last week. But it is...

    1
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    Gavekal Research

    Strong Economy, Weak Markets

    The US has been dishing out report after report showing an improving labor market. And the equity market doesn’t like it one bit.

    0
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    Gavekal Research

    Five Corners (11 March): Currency Wars

    Overview: Charles Gave wonders whether Japan might surprise by affecting an appreciation of the yen. United States: With the US dollar rampant, Will Denyer runs the numbers against the euro and yen and finds decisively in favor of the yen. Europe: Francois Chauchat argues that as a major trading currency, the euro was never going to be driven just by trade flows. However in the final analysis the strong external position of euroland will make...

    0
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    Gavekal Research

    The EM Challenge

    With the US dollar on a tear and expectations hardening that the Federal Reserve will raise interest rates this summer, emerging market currencies are again in the firing line. In recent days, the Turkish lira and Mexican peso have hit all-time lows against the dollar, while the Brazilian real, Indonesian rupiah, Malaysian ringgit and South African rand are also in the toilet. And yet while developing world crises have often followed US...

    0
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    Gavekal Research

    Is The US Dollar Breaking Out? - Louis-Vincent Gave

    Our admittedly unscientific survey of clients across multiple conversations would suggest that the most popular trade of 2013 was to be underweight European equities. That did not work out. When 2014 rolled around, the most popular trade tended to be short long-dated bonds everywhere, but especially in the US. Again, the consensus was wrong-footed. In 2015, the overwhelming consensus trade has been to be long the US dollar; and for now, and...

    2
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    Gavekal Research

    The Land Of Wishful Thinking

    How bad can Brazil get? Much, much worse. A visit last week for a round of discussions with investors, government officials and scholars confirmed an extraordinary deterioration in Latin America’s biggest economy in just the last six months, one that is nowhere close to playing out.

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    Gavekal Research

    5C United States: A Crowded Trade, With Good Reason

    The dollar has had quite a run—with the DXY up 22% since July. This crowded trade is obviously vulnerable to pullbacks. But volatility aside, is there potential for the dollar to rally further in the medium term? The short answer is yes, especially against the euro. But if you want to be contrarian, we suggest going long yen. These calls are based on three factors: (i) relative monetary policy trajectories, (ii) the likely direction of fund...

    0
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    Gavekal Research

    The Oil Bubble Implosion

    Since the late 1980s, oil prices have only collapsed by -50% or more over a six month period on two occasions: during the 2008 crisis and in the period since last August. In itself, this begs some interesting questions: does the sudden drop in the WTI and Brent price mean that the world economy is falling apart? Or that oil is set to bounce back? Or finally, that oil was in a bubble which has now imploded? At this juncture, the first option...

    1
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    Gavekal Research

    Growth & Markets Monthly (March 2015)

    Our latest monthly report shows that the modest recovery in growth indicators, which started last month, has continued. Since central banks are engaged in aggressive easing action on a number of fronts, it would be surprising if this improvement does not continue. In addition, our velocity indicator has rallied and hovers at a six month high, which mirrors the low level of the VIX index. Such readings point to a “risk-on” environment, but we...

    0
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    Gavekal Research

    The Sense Of An Ending

    In yesterday’s congressional testimony, Federal Reserve chair Janet Yellen did not indicate that she is backing away from her tentative plan to hike interest rates later this year. Sorry markets. But investors may take comfort in the fact that she has made it crystal clear that rate hikes will not come as a surprise. There will be ample warning.

    0
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    Gavekal Research

    Five Corners (25 February): Global Property Wrap

    Overview: Property gets a bad rap from macro-economists as an “unproductive” asset. This mistakes its true value in modern economies, argues Anatole Kaletsky. United States: Despite recent soft housing data, the US housing market is ready to rip, say Will Denyer and Tan Kai Xian. Europe: Francois Chauchat argues that Europe’s housing market may have entered a gently rising cycle for the first time since 2007. China: Property sales have picked...

    1
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    Gavekal Research

    The Hidden Tax On Savings

    Frederic Bastiat, the great 19th century French liberal thinker, observed that mediocre economists spend plenty of time talking up the immediate beneficial impact of their measures, but usually ignore the less obvious long term effects. He summarized this view with the pithy observation: “In economics, there is what you see and there is what you don’t.”

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    Gavekal Research

    5C United States: The Stars Have Aligned

    The 2013 “taper tantrum” sent mortgage rates up and so put the housing market recovery on hold for a few quarters. But then rates came back down, and the US housing recovery resumed—albeit modestly. We must admit that this “recovery of the recovery” has been weaker and narrower than we expected. And now, a key housing market indicator has rolled over; existing home sales in January fell –4.9% MoM, the biggest decline in more than a year....

    0
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    Gavekal Research

    5C Overview: The Importance Of Property

    Property, both residential and commercial, is the world’s oldest investment and, in the long run, the most reliable and profitable store of economic value. Like the world’s oldest profession, however, it operates in the financial shadows. Property lacks the transparency of mainstream asset classes such as equities, bonds and currencies, with no completely objective price benchmarks to measure returns reliably even in sophisticated markets such...

    3
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    Gavekal Research

    The Financing Gap And Bond Spreads

    So far this month, the yield on the 30-year US Treasury bond has risen from 2.22% to almost 2.73%—a sharp move for such a short period of time. In December, we took a searching look at long rates in the US, and expressed the view that as 30-year Treasury yields dipped below 2.5%—the lower limit of our valuation model for long bonds—it would be time to shorten the duration of bond portfolios from 30 years to seven years (see Managing Bonds In A...

    6
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    Gavekal Research

    Patience Is A Virtue

    The clichéd phrase “patience is a virtue” does not, strictly speaking, refer to the sort of patience promised by the Federal Reserve in its minutes last night. When Janet Yellen speaks of “patience”, she means a wait of at least three month before she does anything—however gentle—that could conceivably impede US economic growth. But the patience described by medieval Christian scholars as one of the “Seven Heavenly Virtues” was not the opposite...

    1
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    The Signal In US Market Cap

    The ratio of US stock market capitalization to US gross domestic product has long been a favorite indicator for many investors. The great Warren Buffet himself endorsed it in 2001 as “probably the best single measure of where valuations stand.” But we think we can improve on it. Recent history has shown that it is more appropriate, and more useful, to value US stocks against global GDP. Looking at this measure today we find one more reason to...

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    Five Corners (11 February): The Earnings Squeeze

    Overview: Charles contrasts US companies' strong accounting profits with the less impressive numbers reported in the national accounts and asks some hard questions. United States: The latest earnings season revealed a tale of two markets with multinationals and energy firms lagging while domestics surge ahead. Will and KX ask whether this can last. Europe: François argues that if eurozone GDP growth picks up to the degree that the...

    0
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    Gavekal Research

    The Resolute US Motors On

    January saw the oil and gas industry fire more workers than in any period since the 2008 recession. Viewed in this context the overall pace of job growth in the US is remarkably robust. The January jobs report saw non-farm payrolls grow by 257,000, far ahead of the expected 228,000 and confirming 11 straight months of job gains above 200,000. It also reinforces the point that the energy sector is a fairly small part of the US economy, and the...

    1
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    Gavekal Research

    A Modest Proposal To Save The World

    The last few years have been some of the most intellectually interesting of my career as the post financial crisis period has seen policymakers test the limits of economic theory, and push well beyond. Inspired by their example, I would like to post my small contribution to the sum of new knowledge that this era of extremes has thrown up.

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    5C Overview: Profits and Productivity

    Former West German leader Helmut Schmidt used to say: “The corporate profits of today are the investments of tomorrow and the jobs of the day after.” Put another way, higher labor productivity leads to increased profits, more jobs and a better standard of living. In this regard the chart below shows the link between US profits and productivity growth (centered on its historical mean of 2%). From 1968 to 1993, productivity variations preceded...

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    Gavekal Research

    5C United States: An Earnings Season Divided

    Having passed the halfway stage of the 4Q14 earnings season there is a hint of disappointment in the air. On a median basis, sales and earnings grew 4.0% YoY and 6.0% respectively, down from 5% and 10% in 3Q. Unsurprisingly, the misses have mostly come from energy firms and those players which rely on overseas markets, and so suffer from a strong US dollar.

    0
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    Gavekal Research

    Panic or Process?

    In the past few months, we have seen surprise interest rate cuts from India, Australia, Russia, Turkey, China, Switzerland, Denmark... the list goes on. So what lies behind all these surprise cuts? Panic, or process? The arguments for panic are obvious, and include:

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    Gavekal Research

    Why RMB Stability Vs The US$ Matters

    In China’s onshore market the renminbi is trading within a whisker of the weak side of its permitted trading band against the US dollar. Meanwhile in the offshore market the renminbi hit a two year low last Friday. Against the backdrop of a strong US dollar—in trade-weighted terms the US currency rose 9% over the three months to the end of January—these moves have prompted a number of clients to ask whether Beijing is about to steer a...

    3
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    Gavekal Research

    US Housing Gets Interesting Again

    You’d think the US housing market should be humming along nicely. Economic growth is decent even as worries of deflation in overseas markets help push long-dated bond yields to record lows, so cutting the cost of home finance. The collapse in oil prices has given households money to spend and pushed consumer confidence readings for January to a post-crisis high. Last week’s GDP report for 4Q14 showed personal consumption growing at an impressive...

    0
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    Gavekal Research

    Ignore The US GDP ‘Surprise’

    How worried should we be about the weakening of the US economy towards the end of last year? The answer, despite Friday’s sharp fall in equities and the record low set by the 30-year treasury bond yield, is not at all. Whatever the reasons might have been for last week’s market gyrations, they could not have been connected with the economic slowdown ‘revealed’ by Friday’s fourth quarter GDP figures, since this slowdown was almost certainly an...

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    Sweden: The Planets Are Aligning

    Asset allocation is—or at least should be—a process. Investors try to identify the favorable and unfavorable factors driving an asset’s performance, and monitor developments to identify where they stand in the investment cycle.

    2
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    Turning Cautious on US Equities

    Given their remarkable performance over the last four years, can US equities really continue to outperform global peers? Recent developments give cause for concern as market technicals look weak and earnings announcements for bellwether stocks have come in lackluster. Earlier this week Louis asked some basic questions about US equity market leadership (see Does It Still Make Sense To Overweight US Equities?). We share his concern not because we...

    4
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    Asia’s Encouraging Currency Stability

    Three months ago to the day, the US Federal Reserve ended its outright purchases of treasuries. Three months before that, the ECB instituted negative interest rates. And whether by coincidence or causation, most commodity prices chose the past six months to unravel. The combination of these events has led to some sharp exchange rate moves. Over the past three months, commodity currencies have been taken to the woodshed: the Russian ruble is down...

    0
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    Does It Still Make Sense To Overweight US Equities?

    Investment decisions are typically driven by the costs of five factors: land, labor, capital, energy and government. One of the key theses of Too Different for Comfort, the book I wrote a couple of years ago (available for free download here), was that in the years following the Asian Crisis of the late 1990s, Asia boasted one massive comparative advantage: a much cheaper cost of labor than anyone else. So for ten years, any new factory,...

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    Five Corners (28 January): In Central Banks We Trust

    Overview: When central banks led a war on inflation in the late 1970s and 80s they kept on fighting long after the enemy was beaten into submission. They are likely to take the same approach of using overwhelming force in today’s fight against deflation, says Anatole. United States: The Swiss may have given forward guidance a bad name, but the Fed should be taken at its word, argues Will Denyer. Unlike Anatole, he thinks that interest rate...

    3
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    Gavekal Research

    5C United States: What If The Fed Really Did Hike This Year?

    Since making its first rate cut in September 2007, the Federal Reserve has delivered seven years of the most intense monetary easing that modern economies have experienced. Now, the world must grapple with the exit strategy. To be sure, that moment of reckoning could be delayed by factors that include lower oil prices, a higher dollar and renewed risk of a Grexit. But, unlike a certain central bank from a country noted for its chocolate and...

    0
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    Gavekal Research

    Towards An OECD Recession In 2015

    One of the OECD’s jobs is to determine when a recession has hit the overall grouping of developed nations. The chart below shows OECD recessions shaded grey, while US recessions, as decided by the National Bureau of Economic Research, are in pink. The OECD seems to record a recession during periods when the industrial production index for the grouping falls over a 12 month period (one exception was 1995 when a mysterious recession apparently...

    5
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    Gavekal Research

    5C United States: The Economic Ripple Of Cheaper Oil

    Some worry that while US consumers are today benefitting from lower fuel costs, this will be trumped by mass layoffs as the shale energy boom goes bust. We don’t buy it. The shale boom is certainly going to bust, but the size of the US energy sector should not be over-estimated and nor should the positive effects that tend to follow oil price declines be underestimated.

    0
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    Managing Equities In A Strong Dollar World

    In December, we examined the rules a fixed income manager should follow when the US dollar is going through a period of structural appreciation. We emphasized that these are different from the guidelines he or she should follow when the US dollar is structurally falling. Equity managers too should change their approach when the US dollar is in a structural up-trend, but the sets of rules they should follow are vastly more complicated than...

    3
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    Gavekal Research

    Stick With US Treasuries

    US treasuries have maintained their stellar performance in the first three trading sessions of 2015 with yields of both the 10-year and 30-year declining more than 20bp. A year ago I advised strongly for investors to buy long-dated treasuries. But last month I suggested a tilt toward shorter duration portfolios due to the changed macro environment and more challenging valuations (see Managing Bonds In A Strong Dollar World). In light of recent...

    3
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    Gavekal Research

    From Greed To Fear

    For the last two and a half years since June 2012, the best strategy for global equity investors has been to buy on dips. The strategy worked because of a very high level of market resilience combined with a (sometimes excessively) optimistic environment. As a result, over the last couple of years markets have tended to recover very quickly from shallow corrections.

    0
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    Oil And US Contagion Risks

    Oil prices are 50% lower than last summer and it is not clear that the rout is over. Such a dramatic price adjustment in what is arguably the most essential commodity to modern life will inevitably shape the economic and investment landscape in 2015. In the case of the world’s largest oil consumer, our view has been that lower oil prices reinforce the case for a sustained US recovery. Our proviso to this fairly cheery prognosis is that the...

    5
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    Gavekal Research

    The Long Shadow Of The Commodity Bust

    The commodity boom of the past decade had all the hallmarks of a typical bubble: massive retail participation (through ETFs, mutual funds etc…), large pension fund involvement, a widespread belief that ‘this time, things were different’ and that a ‘commodity super-cycle’ was unfolding. But like all bubbles, this one too has come to an end. There were plenty of potential triggers in the shape of (i) the Federal Reserve’s decision to stop printing...

    0
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    Janet Yellen’s Inner Wicksellian

    As readers may be aware I have written very little on central banks and their policies recently. At the beginning of the zero interest rate policy experiment—which so far has lasted longer than World War II—I tried to explain why I thought it was a terrible idea (see The High Cost Of Free Money). However, I rapidly came to realize that my role was not to tell central banks what they ought and ought not to do, but rather to try to help our...

    2
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    Will US$50 Be Oil’s Floor, Or Its Ceiling?

    As I explained in yesterday’s Daily, the oil price is set to remain depressed at least through 2015, until the Saudis are satisfied that they have injured their geopolitical and economic competitors severely enough to regain pricing power. The big question now is whether a price of around US$50 a barrel—some 10-15% below present levels—forms the floor of oil’s trading range for the next few years, as it did between 2005 to 2014, or whether US$...

    10
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    Oil: Lower For Longer

    How low can the oil price go? And how long can it stay down? These two questions are weighing on the mind of every investor in the world these days, to the exclusion of almost everything else. Nobody can respond to the first question with any confidence—although we take a stab below—but the second is actually pretty easy to answer.

    3
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    Europe Not EMs At The Vortex

    In the summer of 1998, Russia’s financial crisis stemmed from the oil price plunge that followed the Asian financial crisis. Today the worry is that Russia’s fall is causing a cycle of contagion which could pull down even decently managed emerging economies. Unusually, this collapse is happening just as the world’s biggest asset allocators prepare to effectively shut up shop. It is rare to get a full blown crisis over year-end simply because...

    3
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    Managing Bonds In A Strong Dollar World

    During my money management career I have come to realize that there are two basic investing environments. There are periods when the US dollar is structurally declining and there are times when it is structurally appreciating. Depending on which condition applies, then anyone running a global investment portfolio should use different decision rules. We are probably moving into a period of structural dollar appreciation, so it seems an opportune...

    0
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    The Sources Of US Purchasing Power

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    Oil And Contagion

    So much for the gentle year-end that looked to be in store after the swift recovery from October’s sell-off. Investors now face an acute dilemma as oil demand estimates get scaled back and the energy complex howls: does the effective tax cut delivered to oil consumers outweigh the effects of capital destruction and rising bad debt that must result from a 40% fall in prices? US equity investors have mostly cheered the onset of $2 a gallon...

    0
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    Five Corners (10 December): Contrarian Ideas For 2015

    Overview: Anatole Kaletsky looks at the struggle between the Middle-East sheiks and US oil producers and concludes that oil is about to finally conform to standard economic theory. One unintended consequence may be the effective liquidation of western oil majors. United States: Will Denyer considers the dramatic scaling back of the US shale oil sector but argues that US capital spending should do just fine next year. Europe: Francois Chauchat...

    0
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    New York Seminar December 2014 - Charles, Francois, Tom & Will

    We held our winter seminar in New York on December 5 with Charles, Francois, Tom and Will offering their views of the global economic pulse and recent market developments.

    0
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    Asset Allocation In The Era Of Cheap Oil

    I’ve read plenty of bullish statements recently saying that the decline in oil prices amounts to a massive tax cut; “a phenomenon that’s making everybody better off,” as US Federal Reserve vice chairman Stanley Fischer declared last week. But as Frédéric Bastiat wrote, in economics you have what you see and what you don’t see, or as Milton Friedman put it: “There is no such thing as a free lunch.”

    4
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    5C United States: US Capex Will Grow Despite Energy Sector Cuts

    The relentless decline of oil prices promises to be a key variable impacting economic activity in 2015. The positive implication for consumers is clear. The implication for capital spending growth is less obvious. Our view is that the outlook for overall US capital spending is bright, despite the likely collapse of oil-related capex. In fact, it may be brighter because of the collapse in oil prices.

    0
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    The Burning Questions For 2015

    With two reports a day, and often more, readers sometimes complain that keeping tabs on the thoughts of the various Gavekal analysts can be a challenge. So as the year draws to a close, it may be helpful if we recap the main questions confronting investors and the themes we strongly believe in, region by region.

    0
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    Crunch Time, Really, For The ECB

    There is an odd dissonance to the spin that has led up to tomorrow’s European Central Bank’s meeting. On the one hand, ECB officials are doing their best to paint the move towards full-blown quantitative easing as manifest destiny. Indeed, the economic conditions seem to merit such action given awful PMIs released this week for France, Germany and Italy, which together account for two thirds of eurozone GDP. Yet there is a parallel track of ECB...

    1
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    Growth & Markets Monthly (December 2014)

    This month saw our main growth indicator drop into negative territory for the first time in more than a year. The key drags were the commodity-related components and the underperformance of growth-sensitive stock markets such as South Korea and Sweden. The chief concern for markets is whether lower oil prices and the new monetary activism of the Bank of Japan and promises of action from the European Central bank can help reignite market momentum...

    0
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    A Better Class Of Bubble

    We never tire of pointing out that, when it comes to bubbles, no two bubbles are ever the same. Firstly, bubbles can bid up asset values because of their perceived ‘scarcity’ (typically land and real estate, but also tulips, or gold…) or because of their productivity (canals, railroads, telecom lines, energy…). This distinction matters because, in the first case, an economy is left with no more land (or gold, or tulips…) than at the outset. In...

    13
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    Oil And The Message From Credit

    Fixed income investors typically have to answer two questions: the first is whether to have a longer, or shorter, duration portfolio than their benchmarks. The second is whether to improve, or reduce the quality of their bond holdings. And to guide them in these decisions, they need to study relative valuations, form a view on the economic growth outlook and then anticipate changes in factors such as inflation.

    2
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    The Great Policy Convergence

    Yesterday’s announcement that the European Central Bank is preparing to buy government bonds from the first quarter of next year is an event of historic importance. As the logical follow-up to Mario Draghi’s commitment to expand the ECB’s balance sheet by €1trn, yesterday’s statement by ECB vice-president Vitor Constâncio confirms beyond reasonable doubt that Europe is ready, at last, to implement full-blown quantitative easing, over-riding the...

    1
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    Five Corners (26 November): Capital Spending In 2015

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    5C Overview: ZIRP And Capital Spending

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    5C US: United States: Capital Spending Is Picking Up

    Corporate America has been extraordinarily profitable through the post-2009 recovery, with the latest earnings season once again surprising on the upside. Yet, economy watchers have been frustrated that companies have not used this profitability to fund a capital spending spree. Instead, they have opted to buy back shares and pursue mergers and acquisitions. Our view—considering the economic circumstances—is that this was rational behavior. But...

    0
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    Global Central Banks Are Driving Appetite For US Cyclicals

    The rebound in US equities since their mid-October trough has been impressive. After giving up almost all its year to date gains in just four weeks, the S&P 500 snapped back even more quickly, ending October at a new record high. Since then, it has extended its advance to notch up a YTD gain of 12%. Yet, until just a few days ago, the relative performance of sectors within the index indicated a degree of caution on the part of investors....

    0
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    A Balanced Portfolio Alternative

    In recent weeks Charles has argued forcefully that the specter of deflation looms large. He sees capitalism returning to its “19th century roots” of deflationary booms and busts. He points to the wide dispersion of weak prices and in yesterday’s Daily added a twist by highlighting weak silver prices as a reliable predictor of price declines (see The Signal In Silver). If you accept this view, the next question becomes whether price signals point...

    0
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    The Signal In Silver

    Since mid-July the price of silver has slumped by -25%. These days silver is mostly an industrial metal. But down the decades it has retained some of its monetary characteristics. What’s more, for more than a century silver has traded freely in the market, unlike gold which only started to float in the 1970s. So the question I am trying to answer is very simple: Is there a relationship between variations in the price of silver and...

    2
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    Here Comes The 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 US economy steadily expanding, monetary and fiscal policy becoming more stimulative in other parts of the world and the autumn season for financial crises now over, a melt-up seems more likely than a melt-down.

    0
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    A US vs UK Asset Allocation Model

    Over the long term, there is no reason why the UK stock market should offer a higher—or lower—return than the US market in dollar terms if the two countries operate in an open system and are similarly (badly) managed. Equally, there is no reason for the US bond market to outperform or underperform the UK bond market since—in an open system—the risk-free rates must be the same. If one market has outperformed the other for a considerable period...

    0
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    Bank Shares And Deflation Risks

    Over the years, I have learnt the hard way to pay a good deal of attention to the behavior of bank shares. Simply put, when interest rates and bank shares fall in tandem the market is offering a clear signal that very bad news is on the way.

    3
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    Five Corners (12 November): The Commodity Fallout

    Overview: Louis Gave Considers the poor performance of gold mining stocks and wonders if energy companies are set to go the same way.

    0
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    5C US: To The Consumer Go The Spoils Of Shale

    The US shale energy revolution will continue to confer economic benefits, but a reordering of the main winners and losers is unfolding. With the WTI benchmark at $77/barrel and seemingly headed lower, the US shale oil drilling industry is set for a significant slowdown. That is bad news for the energy companies, equipment suppliers and those states with heavy exposure to the sector—all of which have had a great few years (see Is The Shale Boom...

    0
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    Gridlock Itself Is Not The Problem

    The votes are in and the result is yet more gridlock in Washington. For the US there is nothing unusual in this situation. Presidents have been opposed by both houses of Congress in 32 out of the 70 years since WWII, and opposed by one house in another 14 years (see here). However, political paralysis is becoming the norm in many democracies, especially in Europe. An important question is therefore how different countries and regions can cope...

    0
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    Deflation: Boom Or Bust?

    It has been my contention for a while that capitalism is returning to its 19th century deflationary roots. Indeed, the evidence for this assertion has become overwhelming. The consumer price indices of 13 OECD countries have negative YoY readings. Another eight are below 1%. In the case of “goods inflation,” all European economies are flashing negative. And if the likes of Italy or Spain thought that salvation lay with an “internal devaluation...

    2
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    Growth & Markets Monthly (November 2014)

    In this edition of our monthly report we note that economic activity continues to register weaker momentum while deflationary pressures remain stubbornly present. On the primary liquidity side, the Fed has ended its quantitative easing program, while the Bank of Japan has committed to a more aggressive policy, which may yet inspire the European Central Bank into similar action. Private sector credit multiplication, or the velocity of money, has...

    0
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    The True Meaning Of The September October Sell-Off

    The World MSCI stands marginally higher than its position on August 1st. So someone who went on holiday for three months might conclude that not much has happened. Yet, in doing so, our Frenchman (for who else takes three month holidays?) would have overlooked an important question that is highly relevant to the here and now. Specifically, why did markets unravel so aggressively in a six week period from early September to mid-October? To this...

    2
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    London Seminar October 2014 - Anatole, Francois, Tom, Will & Charles

    We held our autumn seminar in London on October 28 with Anatole, Francois, Tom, Will and Charles offering their take on the state of the world economy and the outlook for financial markets.

    2
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    The Most Reliable Source Of Demand

    The strong third quarter growth in US gross domestic product announced yesterday—a 3.5% annualized rate—not only suggested that the American economy is on a sustainable upward trajectory; it also confirmed that the Federal Reserve’s decision to end quantitative easing is appropriate. Although the faster-than-expected headline growth figure was partly driven by government spending, the two key engines of the economy—business capital spending and...

    1
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    Walking Without The QE Crutch

    After three rounds, six years and some US$3.7trn in asset purchases, the US Federal Reserve yesterday finally called time on its program of quantitative easing, and shifted its language on the US labor market from ultra-dovish to something slightly closer to neutral. Investors took the news in their stride, largely untroubled by the Fed’s confirmation that it is to take away what many had long regarded as an essential crutch for asset prices....

    3
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    Five Corners (October 29): The Fiscal Imperative

    Overview: Anatole Kaletsky explains why monetary policy has become an effective irrelevance and fiscal policy is really the only game in town.

    0
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    Is The Shale Boom Turning To Bust?

    America’s shale bonanza has been one of the great success stories of the last ten years. Since the mid-2000s, the US energy industry has transformed itself, as rising international energy prices and advances in horizontal drilling made it feasible to exploit vast hydrocarbon resources locked away in the shale beds which underlie much of the country east of the Rockies. As companies drilled new wells by the thousand, domestic production soared,...

    15
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    5C US: The Proof That ‘Deficit Denial’ Works

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