2013 investment themes

• The theme of austerity versus fiscal deficits will be a key driver of markets. However, following the the news flow will not be rewarded in the longer run. Markets are moving because of changes in growth. The austerity or fiscal deficit issue will only effect markets if there is a surprise that translates into a change in growth. The most important theme is that credit headwinds will continue to cut growth rates.

• Three speed global economy (from Barclay's) - There will be fast growth in China, slow growth in the US, and negative growth in Europe. This is likely to be the growth theme for 2013 even with a negative print for the fourth quarter in the US of -.1%.

• The new Japan - The declining yen will have a positive impact on exports and on the Japanese stock market. It has been a long time since Japan has been relevant for world growth in a positive way.

• A calmer Europe - While the EU is in recession, we have seen a calmer Europe in the second half of 2012 and this will continue for 2013. This does not change the underlying negative structural problems, but there will be less headline risk.

• The new China growth story - China will move to increased internal spending as a consumer society but it will not be at the pace that will solve other world growth problems. Structural problems exist in banking, state enterprise, labor markets, and the rural to urban migration. These have not really been addressed since the government change in the fall. 

• There is the constant of hope versus fear - The hope that we will go back to a normal recovery versus the fear that we will be stuck in slow growth.

• The growing importance of emerging markets  - We will not go back to the old world of developed markets being a driver and big swings in emerging market performance.

• Type 2 stagnation - Relative economic stagnation with asset price inflation not goods inflation

• The paradox of taxes - Regulation and cost inflation will be on a rise with poor growth deflation. Higher prices not coming form higher demand. Taxes will slow growth and drive prices higher. 

Low information voters (investors) drive markets

Low information voters (LIV) have become part of of our political lexicon, but the same concept could be used as an explanation on what drives asset markets. Those markets which have more LII (Low Information Investors) will have a higher likelihood of moving away from fair value and be less driven by the fundamentals. If you think about markets as a voting mechanism this analogy is apt. When we see markets move for reasons unrelated to fundamentals, we can confidently say they are driven by LII. This is just another way of saying "noise" traders which was the term used in the 1980's.

A good example would be the gold market which is often moved by ETF flows and not fundamentals. The low information investors who are driven by headline risk are another example where there can be a deviations from fundamentals by those who do not do their homework. LII can lead to market prices or results that seem out of touch with reality no different than the impact LIV some elections.

Yen and currency wars

The yen continues its march lower based on the expectation that the BOJ will get serious about a 2% inflation target. The market has been expecting this for years, but this seems like the first time that the government and central bank will be coordinated with policy. Of course, the BOJ has had little say about their independence given the strong tactics of the new government to announce the new monetary policy and back it up with a change in personnel.  

Abenomics is going to be in place to jump-start the Japanese economy. Some have started to comment about a new currency war, but the Japanese economic minister states that this is not currency manipulation but a result of  change in policy to hit the higher inflation target. Rightly so, there has not been active intervention but a change in policy, and a clear change in monetary policy will affect exchange rates. Rational expectations tell us this is the outcome. The Japanese government states that the falling yen is just the results of market economics. 

This new policy is a double edged sword. One the one hand, world governments have been pushing for action by the Japanese government to inflate the economy, yet now that it is happening there are some who say that the currency is being manipulated for the advantage of the Japanese. You cannot have it both ways. The currency war is now about what exactly the rest of the world would like from Japan.

The power of the Mississippi River

 

The Mississippi River has been at extremely low levels which has been affecting the logistics of grain markets. Barge traffic has slowed and getting corn, wheat or soybeans down river for exports has slowed and become more expensive. Logistics and transportation is  a key part of the commodity story. The chart shows the fluctuations of the river level over time. We are at lows but this is a normal part of the dynamics of a river. 

I have also enclosed a map from the geological survey done by Harold Fisk and his team decades ago. It shows how the Mississippi has changed directions and course over time. It is truly a beautiful map with an amazing amount of information. Nature has a way of determining its own course. Commodity trading is always about learning that lesson.