Albert Edwards, Societe Generale’s gloomy global strategist, fired off a strongly worded weekly email to clients yesterday, arguing that the global economy might already be in recession and dismissing “perpetually bullish analysts” as “diehard happy clappies”.
Even by Edwards’ standards, the five-page note is harsh and uncompromising, accusing the US Federal Reserve and the Bank of England of being “wholly complicit” in perpetrating “daylight robbery” on the middle classes, and implying that riots in the UK are a product of this theft. Of Ben Bernanke, he says the Fed chairman’s certainty of view is “simply far too dangerous” and that the key lesson of the crisis has yet to be learned: “Do not appoint an academic to head up the central bank.”
Recession is now almost inevitable, if not already here, argue Edwards and other bears, who point out that equity markets were already falling before Standard & Poor’s downgraded the US and bond yields were doing what you would expect given the poor economic data.
“We had a nice two-year rally in risk assets and something close to an economic recovery, but as we had warned, it was built on sticks and straw, not bricks,” said David Rosenberg, the former Merrill chief economist who now works at Gluskin Sheff in Canada, in his Breakfast with Dave note on Monday. “This isn’t much different than the financial engineering in the 2002-07 cycle that gave off the appearance of prosperity.”
Rosenberg said in late July that “one small shock” could tip the economy into recession. The downgrade might have been the final straw that caused stocks to plunge, but it probably would have happened eventually anyway.
“The downgrade may have caused the breach of critical support levels of 1,250 on the [S&P 500], but anything could have caused that breach and triggered the technical rout,” wrote Edwards in the note, titled: Believe the Doom Merchants — Ice Age Part 3 begins. “Expect some sort of retest of this neckline before the market ultimately meets its date with destiny.”
And that destiny is mapped out in the course that Japan’s economy followed after the collapse of its economic miracle: recession, a short-lived recovery and then “the third phase of the Ice Age, when another cyclical failure combines with a secular de-rating of equities and re-rating of government bonds”, according to Edwards.
Beware comparisons with Japan, though. As the response to the earthquake and tsunami showed, Japanese society is unusually homogenous and equal, and particularly so when compared to the US and UK. It might not be so easy to force austerity on to a diverse and discontent population.
“I and many others have been pointing out for a long time now the simple fact that the global economy has been living way beyond its means for years,” said Edwards. “A massive transfer of income to the very rich has occurred while middle class real incomes stagnated. The middle classes only tolerated this because central bankers created housing booms to keep the impoverished middle classes borrowing and spending to give them the illusion of prosperity and stop them from revolting.”
Worryingly for Edwards and other bears, including Fred Hickey, author of The High Tech Strategist, Bernanke thinks that Japan has failed to beat its deflation problems because, basically, it hasn’t tried hard enough.
“In short, Japan's deflation problem is real and serious; but, in my view, political constraints, rather than a lack of policy instruments, explain why its deflation has persisted for as long as it has,” Bernanke said in a 2002 speech that Hickey drew attention to recently. There is little to suggest that Bernanke has become any less confident in his ability to conjure inflation whenever he wants — a belief that could come in for a stern test soon enough.
Many who accept the argument that the US is in deep trouble have taken solace in China’s miraculous growth, but Edwards pours cold water on this too, pointing out that OECD leading indicators show that growth in emerging markets is slowing even quicker than developed markets.
As for buying opportunities, the consensus ought to be that current stockmarket levels deserve a huge punt. After all, few analysts have marked down their year-end forecasts and stocks are now below most of those levels, but Rosenberg argues that the recent losses simply put the S&P 500 back to its 50-year mean price-to-earnings ratio, which suggests that stocks might need to get even cheaper before they look attractive.
However, Rosenberg also says that a recession “is a virtual lock — as close to a sure thing as there could be”, which is hardly a compelling reason to jump into equities.
