Stock market volatility has spiked in August as has the concern of investors. After a parabolic equity performance in China, the severe correction in that market has spooked investors globally. A slowdown in economic growth is evident in China despite the obvious manipulation in GDP numbers, which consistently match 7.0% growth targets. That slowdown has direct implications for neighboring countries that count on selling goods in the large Chinese economy. It also affects countries that supply raw materials, such as Australia, Brazil, Canada, and Chile, that benefitted enormously from China’s previous outsized industrial expansion.
As challenges in China come into focus, slower than normal growth in the developed world, namely Europe, Japan and the United States, has raised questions about financial markets more broadly. We have written periodically about the effects of unwinding the global debt bubble. Slow economic growth is to be expected after a recession caused by a credit crisis. It can take many years to normalize debt levels and economic activity. We may be only half way through the process.
Eventually, though, there are a number of things that point to a bright future. Banks have been deleveraging as have consumers. Savings still have a long way to grow to reach normal levels, but they are improving, particularly as baby boomers realize that they will need more for retirement. Savings will eventually spur a capital investment cycle appropriate for tomorrow’s needs. For the time being, Capacity Utilization, as reported by the Federal Reserve, and Nonfarm Productivity, as reported by the Bureau of Labor Statistics, are both weak. While some think that low Capacity Utilization and poor Productivity will persist as part of an extended period of ‘secular stagnation,’ we are optimistic that we are in the early stages of a technology revolution that will have a profound effect over time.
Much of today’s technology is still not affecting the economy in a major way. The same is true of prior cycles. It took time for the Industrial Revolution to significantly change economic development. The same is true for railroads and, later, electricity to fully affect today’s developed economies. We are witnessing only at the beginning of the changes still to come from the advancements in semiconductors, the Internet, robotics, biotech, and 3-D printers.
We can expect the education system to adapt to the new economy, too. More schools will prepare their students for careers in science, technology, engineering and math. Some manufacturing is coming back to the United States. But, the new jobs associated with that manufacturing require new skills. High schools and junior colleges are already developing apprenticeship programs for operating sophisticated computerized equipment and to learn how to become skilled mechanics. German automobile manufacturers have brought that culture to the United States. Now American firms are doing it, too. Profit margins are now at historical highs and have probably topped out. Corporations have pared costs so aggressively that there remains little more to cut. Business will be forced to improve productivity.
The future is bright. But, as investors, we have to cope with the challenges of the moment. Global growth is slowing. The developed world is experiencing subpar economic activity and will continue to do so until the imbalances of the decades long debt boom are adequately addressed. As the activities of Central Banks become less influential on financial markets, we should expect higher volatility and should position portfolios accordingly.
- The views expressed are provided for information only and are not to be used or considered as an offer or solicitation to buy or sell securities or investment products. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you consult your financial advisor.
- All performance referenced is historical and is no guarantee of future results.
- All indices are unmanaged and may not be invested into directly.
- The economic forecast set forth in this presentation may not develop as predicted, and there can be no guarantee that strategies promoted will be successful.
- Stock investing involves risk including loss of principal.