Maybe there is a golden financial rule in this. Or maybe not…
Anyway here’s my Monday morning saying:
‘The chances of a major correction or crash are in inverse proportion to the worries about said correction or crash.’
Seriously, the amount of stress and worry that surfaced after last week’s commodity price correction is incredible. Take this from the Financial Review:
‘Many traders have been stunned by the viciousness of the latest sell-off in commodity markets. Iron ore futures prices, which slumped 7.5 per cent in trading on Friday, are now at their lowest levels since November, having dropped more than 30 per cent from their February peak.
‘Similarly, US crude oil prices tumbled more than 6 per cent last week to US$46.22 a barrel, the lowest level since November, as investors worried that OPEC’s output cuts would fail to ease a global surplus.
‘And the price of copper has also dropped sharply amid worries over rising inventory levels at the London Metals Exchange.’
That was written before Friday’s trading session in the US. Commodity prices rebounded and the S&P500 closed at a record high. And overnight, elections in France brought moderate Emmanuel Macron into power. As this is a vote for the status quo, it’s another bullish argument for global markets.
As a result, Aussie stocks are set for a strong day. Mining and energy stocks will drive the gains, as they led the sell-off last week.
From a psychological point of view, don’t you think it’s interesting that every stock market correction increases people’s anxiety levels to the point where they think ‘this is it’?
I do. It feels like people are still living with the ghosts of 2008. And that’s understandable. It was a traumatic experience. It was the worst economic contraction since the Great Depression.
And given that nothing has really been done about fixing the problems that caused the bust, people, perhaps you included, are understandably worried about it happening again.
And I have no doubt that it will happen again. I just don’t know whether it will happen next year or next decade.
20 years ago, if you were to ask someone whether the world could function under today’s debt levels, they would have said ‘no way’. We judge the future on the very recent past that we’ve just lived. We are incapable of predicting accurately.
Yet the world is functioning under very high debt levels. And who is to say that this cannot continue for years to come?
Just because you don’t believe in something doesn’t mean it can’t happen.
The market does strange things. It does the unexpected. It confounds. It will continue to do so while ever it exists. Just because we now have torrents of information at our fingertips, it doesn’t mean we have the answers.
Ignorance really is bliss when it comes to investing. When you give up holding onto your prejudices and biases, the market becomes easier to deal with.
Worrying constantly about a future that may or may not evolve isn’t going to help you become a better investor. It will only increase your anxiety levels.
The only way that you can understand the market is in hindsight. With that in mind, let’s try and rationalise the recent weakness in commodity prices.
My guess is that it simply reflects a growth slowdown in China. This is what China does. It directs stimulus toward infrastructure investment, which increases the demand for commodities (especially iron ore). When this stimulus inevitably wanes, prices come back.
Last week, iron ore prices fell 10% to nearly US$60/tonne. That’s down from around US$90/tonne in February.
But here’s the thing. No one really thought prices at US$90/tonne were sustainable. The expectation was the prices would always come back to current levels and below…yet it feels like everyone is panicking!
Maybe the correction in commodities has further to play out. I don’t know. But devastating crashes don’t happen when everyone is expecting one.
Energy crisis rolls on
Meanwhile, there are things we really should be worried about. Like the provision of base load energy in Australia. Maybe we need to get our winter energy bills before the panic and outrage will set in.
But prices are rising well ahead of inflation in one of the most energy abundant nations on earth. What is going on? Well, according to commodity producer Glencore’s Australian coal boss, Peter Freyberg, whatever is going on, isn’t good. Speaking to the Financial Review, here’s what he had to say on the matter:
‘“We have to meet Australia’s energy needs now, in five years, 10 years and 15 years. We can’t rely on blue-sky thinking. There is an energy crisis in the world’s largest exporter of coal, the second largest exporter of gas and a major exporter of uranium. We need real solutions. Unless we make decisions really quickly, and I mean in the next 12 months, that re-establish base load capacity then we have no chance of sustaining the economy in the shape that it is in now.
‘“In the end the market will work its way to balance,” Freyberg continued. “It will stabilise – but the wrong way and for the wrong reason. The inability to secure affordable base load supply means that the problem will be fixed by demand destruction.
‘“We are beyond the tipping point in terms of industrial demand destruction. And when capacity is closed and plants are shut down, they don’t come back.’
Energy supply is at the core of economic growth. You can talk all you want about renewable energy, but it is not yet at the point where it can satisfy base load demand. Until it is, we need to rely on fossil fuels.
Because we have focused on sending our new fossil fuel reserves overseas for the past few years, Australia now finds itself short of supply. As a result, prices are rising.
Winter gas and electricity bills will act as a tax on the consumer. They will reduce business sector profits and deter investment. In short, the energy crisis is a threat to economic growth. And we really don’t need that right now.
This will be bad news for almost all Australians. The only people who will benefit will be a select group of investors, who got into the right energy companies at the right time. You can read how here.
But most Australians will only see the negative effects, at home and as they reverberate through the economy.
It’s just another reason why the Reserve Bank will keep interest rates on hold for some time. Which, bizarrely enough, is why the stock and housing markets will remain elevated.
The upshot of all this is; don’t try and make sense of the market. Just go with the flow. It’s too big and complex to try to understand.
Editor, Money Morning