Somehow the Australian market managed to eke out a gain yesterday. It did so despite a 3.3% fall in the A-REIT index. The listed property trust sector of the equity market lost about $3.5 billion in market value yesterday.
The first problem? Leverage. "Heavily indebted GPT Group and Goodman Group lost almost 15 per cent and 14 per cent respectively, finishing the day at 23c and 15.5c," reports Florence Chong in today's Australian.
In what could be the understatement of the year, fund manager Andrew Parsons told Chong, "Unfortunately, the sector is vulnerable to the problems in the debt market. When you've debt instruments trading below their face value, that unfortunately translates into pressure on equities values. There is no breaking point to stop the flight."
The other big problem? The property bust.
We chatted with a few property developers here in Auckland after the wedding on Saturday. It's not the residential housing market their worried about in New Zealand (although that looks bad enough). It's the glut of commercial space and the huge amount of debt it's built on. It's the sort of looming problem that could hit Australia harder than it already has (although on the equity side, through the A-REITS, the hitting has been admittedly hard).
Not to be a Danny Downer, but arguably worse news comes out of Japan. There we learn that Japan ran its first current account deficit in 13 years-shocking news for an economy that's driven by export growth. Exports fell a mind-boggling 46.3% from the year before.
Japan is one of Australia's largest trading partners. If its economy is in free fall, its demand for Aussie resources is not going to recover this year. It's hard to say whether that's already figured into Australian stock prices. But that's a subject that requires an in-depth discussion of the price forecasts used by the big miners, and we can't get into that at just this moment.
Given how dismal the export figures are in Japan and the grinding new lows in U.S. equity markets, it's not a surprise that the World Bank now predicts the global economy is going to contract for the first time in sixty years. It predicts a 15% contraction in global industrial production.
Maybe the world just needs more Richard Bransons. "Fortunes are made out of recessions," Branson said in a recent interview. "A lot of entrepreneurs get going in the economic depths because the barriers to entry are lower. ..There are a lot of Richard Bransons that will come out of the next three or four years."
Ignoring the fact that Branson's Australian outfit Virgin Blue has the worst-performing share in the Asia Pacific airline sector in 2009, the man still has great point. If the downside of Creative Destruction is the unplanned obsolescence of companies like GM and AIG, the upside is that something new replaces the something old (or at least the something that is no longer fit for purpose).
A real recovery in the economy will be led by new production, not phoney consumption. Phoney consumption has been the problem all along. Goosing the money supply leads to artificial growth. It creates false demand and the appearance of economic activity. But it's simply growth for growth's sake because, frankly, that's what gets politicians elected.
Sustainable and healthy economic growth is driven by changes in consumer preferences over time and in new products and services. Those products and services come from entrepreneurs and innovators. Kris Sayce and I were having just this discussion recently. Look for his investment thoughts on the subject in tomorrow's DR.
But it makes sense when you look at just a few historical examples. For example, Henry Ford didn't get into business because he wanted to see U.S. GDP grow at 3.4% per year. He had an idea for a real product that people could use. And people did use it. It was affordable. And his idea changed the economy in unimaginable ways.
That's the trouble with organic growth. It isn't predictable. You have to rely on a basic assumption: given the freedom from onerous taxation and regulation to innovate, entrepreneurs will put capital to productive work to create jobs and produce wealth. That's growth you can believe in. Shuffling a few billion dollars around the economy via a stimulus...that's not growth. That's just binge deficit spending, akin to binging on Big Mac's as a kind of comfort food to deal with your malnutrition.
Yet Kevin Rudd-along with many other critics of the market-continues to say that if government does nothing, nothing will get done. This is odd, given that the thrust of central banking efforts is to preserve asset values at their credit boom levels rather than letting them fall where they may.
People may elect stupid politicians. And people may be collectively stupid, or prone to moronic and retarded behaviour. But privately, they are more circumspect. The increase in the savings rate is a clear indication that consumers prefer cash to the risk premium offered in stocks. When it becomes arguable that the earnings growth on offer justifies the risk of equities, investors will get back in.
But none of that can happen if the status quo is maintained by a patchwork and ad hoc effort by regulators and governments. In a weird way, it's kind of narcissistic for this generation of corporate and political leaders to preserve the world in the way that's familiar and comfortable them. It's also fairly arrogant to think that's even possible.
In the event, whether real change is on offer or not, the world's savings are probably going to keep pouring into the bond markets. Taxes will have to rise in the future to pay the interest on all the public sector debt being sold. You couldn't think of a better way to prevent future real growth, or to turn this severe recession into an even greater depression.
Dan Denning
for The Daily Reckoning Australia
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Related Articles:
- Typical Japanese Investor Would End Up With Less Than What He Started With
- Housing or Entrepreneurs?
- A Bright Future for Destruction
- Japan: A Morality Tale of Banks and Government Refusing to Deal With Debt?
- Most Likely No Housing Recovery to Bubble-Era Levels in Our Lifetimes
About the Author
Dan Denning is the author of 2005's best-selling The Bull Hunter (John Wiley & Sons). He began his financial publishing career in 1997 and has covered financial markets form Baltimore, Paris, London and, beginning in 2005 Melbourne. He’s the editor of The Daily Reckoning Australia and the Publisher of Port Phillip Publishing.
Comment by Anthony Teamson on 11 March 2009:
Dan,
I spend good money on politicians and bureaucrats to make sure the common folk do not do anything as foolish as change their consuming habits and put me out of business. How dare you suggest that it would be alright for some upstart to come along and offer a good or service that competes with me. I can see you just don't understand how much the little people depend on me for their livelihood and well being. If your glorified entrepreneur would spend his time working for me instead of desiring to satisfy some egoistic urge to innovate the world would be a much better place. In fact, it is this brash upstart of an entrepreneur trying to insinuate himself into our fine group of business leaders who is responsible for all this economic turmoil. If I did not have to spend so much money and time on politicians and influence peddlers I might be able to reorganize my business and offer quality goods and services at a competitive price. In fact, if I did not have to leave to cash my bailout check I would tell you about our new program to extend consumer credit backed by a government tax on carbon emissions.