[Editor’s note: Tim Price, London-based wealth manager, is filling in for Simon today.]
As investors we are all suckers for narrative. The current narrative appears to be: China is slowing down, so the sky is falling in.
Everybody in the West used to be concerned that China was taking over the world. Now they’re concerned that it isn’t.
But being sceptical about the investment case for China in the short term does not equate to being sceptical about prospects for Asia in the round.
The West happens to be faced with a number of significant and perhaps even existential problems.
Its welfare system is hopelessly bloated and unaffordable – and an ‘entitled’ generation is heavily resistant to even the mildest reform.
Its governments are loaded with trillions of dollars’ worth of unpayable debts.
Its economic vigour is waning. Its societies are ageing.
Its banking system, seven years after the height of the Global Financial Crisis, remains largely unreconstructed, and kept afloat primarily by emergency monetary stimulus measures that show no sign of being withdrawn – or of working.
Asia, on the other hand, by and large has none of these problems. What it does have is better demographics, lower debt, and higher savings.
It also offers stock markets that are significantly cheaper than those of the West – we specifically favour Japan among its developed economies, and Vietnam among the developing ones.
And Asia also accounts for more than 60% of the global population, and is likely to account for more than 60% of global economic growth within the next 10 years.
In this respect, Asia is merely reverting back to the mean: JP Morgan point out that in 1820, Asia accounted for 68% of the world population and for almost 60% of global GDP.
The ‘anomaly’ over the past century has not just been Asia’s comparative decline, but growth – in Europe, for example – that now looks to have peaked.
Much of that growth was fuelled not by savings, but by credit.
In this respect, the western economies now look about as well managed as North Korea’s; they now reflect what financial analyst Doug Noland cheerlessly but accurately describes as,
“gross misallocation of real and financial resources, economic stagnation, financial fragility, wealth redistribution, rising social and geopolitical tension and central bankers absolutely incapable of extricating themselves from inflationism and market manipulation.”
Perhaps the most extraordinary outcome of the last seven years is that a combination of a Zero Interest Rate Policy, generalised financial repression and trillions of dollars, pounds, euros and yen all conjured out of thin air has failed to trigger inflation in the narrower CPI sense of the word.
Central banks, in other words, have failed. Analyst and market historian Russell Napier of Cerno Capital suggests that,
“[Central banks’] failure to reflate will be very damaging for the price of financial assets and will also ultimately trigger reflation from another source: the government.”
For a number of years we have held gold as part of a diversified portfolio as a form of crisis insurance.
As the dollar value of that gold has fallen from $1900 an ounce towards $1100, many investors have concluded that that insurance has not worked.
But this story has not yet played out.
If Russell Napier is correct in that governments may soon elect to play a more active role in generating the inflation they so desperately require, given the failure of the central banks to create it, how might that affect prospects for gold?
“…the gold price would probably respond positively to enlarged government activity in the capital allocation process. Any sign that the gold price is rising, as the deflationary dynamic unfolds, suggests that such discounting is beginning and thus gold becomes the must-hold asset for both the rise of government intervention and ultimately the reflation that follows.”
But first we have to survive what Napier calls “the next deflation shock”.
If this ‘deflation followed by inflation’ thesis is correct, investors would be well advised to own assets that can cater to each of these eventualities. That includes cash held at reputable and solvent banks, objectively creditworthy sovereign debt, inexpensive but high quality listed stocks, and gold.
The uncertainties are awkward, but we’re all trapped in a gigantic mess not of our own making.
As Voltaire is believed to have said, doubt may be uncomfortable, but certainty is absurd. Almost as absurd as believing that a tiny group of unelected bankers can read the runes of the global economy and manage the price of money accordingly.