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Monday, March 24, 2003

Markets Trying to Front-Run Themselves?

Morgan Stanley's highly intelligent currency expert Stephen Jen asks the question we are all thinking: are the markets getting ahead of themselves? My own response is that this speeding-up in what is euphemistically known as the 'factoring-in' process could well be another example of Kurzweil's principle of acceleration (of things getting faster, faster) at work. But remember, the quicker the markets internalise what are imagined to be the initial post-war conditions, the quicker we may arrive at the post-honeymoon re-assessment.

This is the first post-war relief rally (RR) in history that began before the first shot was fired, in my opinion. The ‘pre-emptive’ nature of this RR seems remarkable. Further, it is also worth mentioning that this so-called ‘relief rally’ resulted from risk reduction rather than more risk-taking, i.e., there is nothing ‘relief’ about this rally, I believe. Since it is very difficult to navigate through these geopolitical currents, the markets, evidently, have clung to the only benchmark we have: the experience of the last Iraq war, where we saw the USD and equities rally, with a collapse in oil prices. The market is, in a way, trying to front-run itself, in my view. However, I see this just as an unwinding of short-equity and short-USD positions, rather than a genuine change in the trends in these two assets............

The underlying fundamentals of the US and the global economy remain weak. The Fed and many global investors may have put too much blame for weak economic activity on the uncertainty associated with the war and high oil prices. However, it is far from clear that a successful resolution of the situation in Iraq will lead to a meaningful improvement in consumer sentiment or capital expenditures. The fact is that the labour market, the housing sector, and retail sales continue to weaken. With capacity utilisation hovering at only 75.6% so far this year, it does not seem justified to believe that capex will recover all of a sudden. Demand in the US will likely be increasingly reliant on fiscal stimulus. With the ‘twin deficits’ continuing to widen toward the 10% mark (the arithmetic sum of the two deficits in percent of GDP), it is difficult to see how the USD can stop depreciating, in my view.
Source: Morgan Stanley Global Economic Forum

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