17th January 2008

The next “dead cert”

Most recently we will have all experienced the extraordinary promotion, commotion and subsequent demotion of the UK commercial property sector. This key and valuable asset class was flogged vigorously by salesmen to advisors and clients, even in the face of well founded valuation concerns - and now, much to the chagrin of many, valuations have fallen back and quite a number of the fund management houses have applied exit restrictions.

So without a hint of red in the cheek, last year’s fad is replaced by another which has all the makings of another financial embarrassment for those not appreciating the shorter term risks.

Following the financial fiascos of 2007 (which will continue on into 2008) we have read often of the flight to quality away from worrying investment areas. This time though there has been no flight to the once mighty US Dollar or the US markets, but rather the charming allure of the shiny, if somewhat unproductive charms, of gold which seems to have won the hearts of many. Additionally I have heard and read comment of those searching for safe havens by rushing into the emerging markets and especially those seeing a great secure safe haven in form of The People’s Republic of China. Hmm – some care needed here I think.

Now of course China is big, and yes it is strong, but it is still an emerging market and economy that is developing fast – but that development will not be in a steady straight flight to the heavens: rather a frightening, although potentially exciting, roller coaster investment ride.

The forthcoming Chinese New Year (in early February) will herald in the year of the Rat – a year that may well see a significant change in the rocket fuelled growth in the economy. We hear little in the West of some of the social pressures within this vast nation, but that should come as no surprise when dealing with a totalitarian oligarchy. However, some of the social frustration has no doubt been partially hidden and even ameliorated by the economic boom which has rewarded some, provided opportunity for others and holds mere hope for the rest still sitting in their agricultural villages.

The double digit growth figures of the past few years have provided an excellent tarpaulin to cover the personal frustrations, grievances and inadequacies in China, and have provided the perfect excuse that economic growth will provide a solution for all - eventually. However, any fall back in this pace could bring to the surface many of these frustrations especially for those who have been awaiting their “share” of the economic boom.

Although the domestic economy has been growing apace, much of the boom has in fact been provided courtesy of the US consumers and their demand for goods which the Chinese have been manufacturing for them (either by their own companies or transplanted US company production units). Here then lies one of the keys to the problem for this nation.

Inevitably the US economic slowdown will ripple across the Pacific as credit issues and consumer confidence all result in lower demand. Export growth from China to the US has fallen from 35% to around 6% year on year and may well turn negative in the not too distant future. Such figures directly impact on the Chinese economy and will naturally influence key issues such as employment, as significant overcapacity will be revealed as having previously been masked by the breakneck speed of growth.

China also has to manage a more recent phenomenon – that of inflation, currently running at close to 7% (with a target of around 3%). This overheating of the economy is bound to result in further cooling measures such as restricting bank lending and further raising of bank lending rates. Add to this probability of a further more substantial move in the currency peg upwards against the Dollar and the rise in export costs could further suppress demand. You can see therefore that a layering of effects would easily lead to quite a significant slowdown in China, not into recession, but quite possibly in cooling double digit growth down to single digit growth. (Just as well after certain whinging by the US about Chinese inflexibility – also I see that the Renminbi has risen by 20% since the authorities abandoned the fixed peg in July 2005).

Although the price of crude has eased back a tad, it is interesting to note that the fastest growing bet on the oil market has been options to buy oil on the New York Mercantile Exchange for $200 per barrel. There has been a 10 fold increase in these contracts over the past two months. Is oil expensive? Well in real terms it is still just off the highs of the early 1980’s and some see it as being good value, with one investment banker quoted as saying “$100 a barrel is actually 14.9 cents a cup, so we are talking about oil being relatively cheap”.

And finally………further Chinese New Year news - I hear that Moscow pet shops have been running out of rats as superstitious Russians have been stocking up on them. Somehow we don’t seem to have such a shortage in Hammersmith and Shepherds Bush.

Also an award to an American for the best excuse for a traffic accident. He apparently, whilst quite sober, told police that he had swerved and hit the traffic lights to avoid a pterodactyl. If only we had more concerned Americans like him, perhaps the dinosaurs might not have died out?

Have a good weekend,