2008-07 SEI Global Review

I thought this topic would be a great first topic to commence the Monthly SEI Global Review. The information here comes from a variety of sources with emphasis on Nouriel Roubini (a total economic wizard).

0807 July SEI Global Review

The following is mostly a summary from Roubini:

1. The credit crisis (starting with sub-prime) is the worst financial crisis since the great depression of the 1930's
2. The crisis is related to subprime financial system (unsecured consumer credit, auto loans, sub-prime and alt-A housing, municiple bonds, industrial & commercial loans, hedge funds, corporate leveraged buy-outs)
3. Credit losses will at least US$1 trillion, more likely US$2 trillion
4. Hundreds of US banks, large and small with real estate exposure will go bankrupt
5. Some major financial institutions while insolvent, will survive with government bailouts as they are too large to fail
6. This will be the most severe US recession in decades
7. The recession will be long, ugly and nasty, lasting 12-18 months
8. The US consumer is shopped out, has no savings, highly indebted, has lost access to credit
9. The US consumer is facing high food/energy prices, falling home prices, falling equity prices, falling incomes and job opportunities
10. The US consumer is a very powerful economic force
11. There will be no-decoupling by emerging markets
12. Already 12 major economies are on the way to a recession
13. US equity markets will likely fall 40% from their peak, (possibly worse in other areas)
14. The housing bubble bust (2007) will lead to recession as it did with the 1980's housing bubble and the tech stocks bubble (1990s), except it will be MUCH worse this time around (as US housing is a much larger asset group)
15. Inflation will eventually abate as the recession reduces demand for commodities (prices should fall 20-30%)
16. The US Fed will lower rates to 0-1% to a) stimulate the economy, and b) recapitalise US banks

Five images of a global credit crisis:

US Housing Prices are in free-fall (perhaps another 20% to go)...

US Consumer is cutting back on all discretionary spending (housing/food/energy is all)...

US unemployment is rising (it will likely get worse)...

US Bank loans retracing dramatically, back to 1940s levels (bad for western credit nations)...Yet earnings still high relative to previous recessions (it will come)...The bad news isn't factored in yet (earnings and thus share prices have a long way to go)...

So investing thoughts?

• Western equities (US, EU, EU, Canada, Australia, NZ...). More downside likely as Western nations enter either a recession or sharp slow down based on de-leveraging and credit contraction, as rising/high food and energy prices.
• Developing equities (China, India, SE Asia...). De-coupling is not likely, food/energy impact is proportionally higher, inflation higher in these countries, export markets entering recession.
• Bonds. Difficult question - if inflation risk > depression risk, yields will rise, prices will fall so short-term duration best. If depression risk > inflation risk, yields will fall further, so buy long bonds (or zero coupon long bonds).
• Property. The global property boom is over on an affordability crunch. Consumer ability to borrow higher amounts crunched by higher interest rates, higher living costs and reducing employment certainty. Stay on the bench.
• Commodities. Who knows? The supply/demand fundamentals look strong. But they did in the tech (2000) and housing (2006) bubbles too. Maybe time to take profits.

The US housing options market suggests a 2010 bottom for house prices. Perhaps late 09 is a time to re-assess. Until next months SEI Global Review that is...

Nouriel can be seen interviewed by Bloomberg here.