NAIROBI, Kenya, Jun 3 – Much has been said of the global economic downturn over the past one year with pessimists saying that the global recession is here to stay for at least another five years.
Optimists on the other hand have taken each market rally in their stride and viewed it as a sign of market recovery. What we should be certain about is that financial markets will recover sooner or later and the debate should actually be when they will recover rather than the possibility of them recovering.
It would be important to understand the magnitude of the global economic downturn before going through the dynamics of market recovery. The Japanese economy spent the first quarter of this year shrinking at its fastest rate since records began because of its reliance on export markets.
This was the case of Germany’s economy. Unemployment in the Euro zone has risen to 8.9 percent while the UK is heavily indebted to the extent that its economic outlook has been downgraded to negative. In the US the government’s intervention by instilling the economic stimulus plan is testimony to how bad the economic situation is in the country and the world by extension.
While these headlines paint a dim view of the world, business confidence is beginning to rise across the globe. Markets are calming down to more normal levels. The few rallies we have seen this year have been caused by announcements of government intervention and the resulting investor optimism.
Equity markets have grown considerably since mid-march with most showing overall positive gains for the year. What is surprising and even worrying is that many investors are still worry about investing in the stock market. It is understandable that some lost a huge proportion of their investments that discouraged them completely. It is true that owning stocks in the early stages of an economic upturn is often profitable. However, by waiting for all indicators to turn positive, investors will be missing the best days of their investments.
The secret to global economic recovery lies in the financial or banking sector. In credit markets, the rate at which banks are prepared to lend to each other has fallen back to what might be termed "normal" levels. The improvements in both the availability and the pricing of credit are very important. With the easing of credit conditions, the velocity is almost certain to rise. This will result in a substantial positive force on GDP growth.
The outlook for the two fastest growing economies of the world is positive. Despite its reliance on global trade flows, China’s economy is well positioned globally and is expected to return substantial growth. Optimism has been particularly triggered by falling interest rates and large-scale stimulus packages announced by the Chinese government.
India’s recent election has had a positive effect on the equity market. Companies across a wide range of sectors, including banks themselves, have pointed to further improvements in the credit environment. Manufacturing has increased by almost 20 percent since the beginning of February. Investment analysts believe that India like China, remain the true long-terms growth opportunities for equity investors.
Although the prospects of market recovery are fairly good, there are several risks that cannot be ignored. These risks have the potential to through market recovery off course. Global economic recovery cannot take place without credit from the banks. Interbank markets are easing, but it is still possible that markets decide the banks still don’t have enough capital to weather the loan losses heading their way. If credit markets stall again, that could also stall the economic recovery.
The early stages of an economic recovery are usually marked by fits and starts. However, many investors still seem to be waiting for sustained improvement to confirm a bottoming of the economy. There are no guarantees regarding the timing or the magnitude of any potential economic recovery, but historical analysis shows that owning stocks in the early stage of an economic upturn has often produced favourable results.
What’s more, investors should be wary of waiting for all indicators to turn positive because this “all systems go” signal has usually occurred at or beyond the end of recessions, and after a considerable slice of a bull market’s gains have already been made. As always, it is important to consult your financial advisor before making any investment decisions.
(Renaldo D’souza is the Marketing and PR Coordinator at Winton Investment Services Ltd, an Offshore Investment Advisory Company based in Nairobi)