Every now and then when markets get confusing and no one knows what’s coming up next, economists and analysts start throwing a word around to describe how they feel.
A few months ago, the word was ‘stabilizing.’
But the tide has now turned. The nature of everyone’s confusion has changed. Stabilisation has a nice, positive ring to it. The word everyone’s using now does not.
The new hot buzzword in global finance is “exhaustion.”
We first noted it at the Milken Global Conference earlier this month, when Mohammed El-Erian, chief economic advisor at Allianz, tried to put his finger on what’s wrong with global markets.
“The growth model for the advanced world is getting exhausted and for emerging markets it’s getting contaminated,” he said.
The thing is, Wall Street isn’t just throwing that word around for the advanced world. Here’s how Morgan Stanley analyst Hans W Redeker used it in a note Friday morning (emphasis added).
Commodities have rebounded under the lead of oil, but this advance should soon run into resistance should AxJ [Asia ex-Japan] economic data not improve soon. AxJ is the biggest commodity consumer globally, which is due to its supply driven growth models. However, these models seem exhausted, as indicated by high capacity and debt overhangs. Hence, demand for commodities should come down. The result would be that commodity prices can only hold up if the anticipated decline in demand is mirrored by downward capacity adjustments, suggesting lower sector investment.
So how did we go from stable to exhausted?
We’re all sick of this
The TLDR [too long didn’t read] version of 2016 markets is that everything went nuts at the beginning of the year. Commodities prices hit record lows (which prompted investors to pull money out of emerging market commodity producers), the dollar strengthened, and the yuan weakened along with the rest of China’s economic data. All of this sent markets into utter panic.
Then everything stabilised as the Chinese government engaged in some stimulus and defended the yuan. The dollar weakened, and money flows went back into emerging markets again. Commodities started to rally a little bit, though they didn’t come that far off their lows.
Now it looks like all of these trends are reversing. One big reason for that is the fact that the Federal Reserve indicated that it might raise interest rates on June 15th. This brings us back to El-Erian, and his understanding of the developing world’s “exhaustion.”
The way he sees it, before and just after the financial crisis, the developed world was growing through financing — first private, and now through what Central Banks are providing.
But as Federal Reserve Chair Janet Yellen and friends are constantly reminding us, that has to end (who knows when, but it’s going to be soon). These days when that reminder is thrown out, the dollar strengthens.
And then what?
In an interview earlier this month, Jodie Gunzberg, the global head of commodities and real assets at S&P Dow Jones Indices, told us that dollar strength — not Chinese or Asian demand — was the main driver for lower commodity prices. It certainly doesn’t help the Asia-ex Japan countries Redeker was talking about.
And lo, as the dollar has strengthened we are now looking at our fourth consecutive week of money flowing out of emerging markets. It’s an indication that money managers are worried about commodity producers along with Redeker.
So for whatever reason you believe we reached “stabilisation” earlier this year — be it China’s stimulus, a weaker dollar, a commodities price rally — whatever. That model has now been “exhausted.”
Who knows what will replace it?
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