Well this question has been one which has the analysts community split right down the middle. I belong to the camp which believes there are still lower lows waiting to be hit across the spectrum of asset classes, be it stocks or commodities. The recent rally has made the sceptics camp look dumb, as a gush of liquidity led to a rocketting of prices across asset classes.
Are we really on the cusp of a rekindling of the growth story in the global economy? I think its too early to tow that line of thought. Albeit its emergin market economies have witnessed stellar runs, supported by enhanced liquidity and expectations of economies like India and China being the growth engines for the global economy. The fact that developed world economies like the US and the Euro zone are still plauged with problems tends to get overlooked. The US still faces the problems of a huge deficit, while the Euro zone is likely to encounter stress from problems emanating from its banking system.
Clearly, the basis for the present rally across asset classes has been injections of massive liquidity. Several global economies have witnessed stimuli from governments in one form or the other, which has helped arrest the decay in economic activity. The sustainability of the present rally remains questionable.
True the emerging markets have been at the forefront of this rally, but they still have their own vulnerabilities. Lets take the case of China and India. Though the dragon has well and truly stirred, China remains an export oriented economy. A significant share of its export trade is with the US, a cooling off in demand could lead to a slowdown in the chinese financial system. The Indian case is interesting, as the allure of the country has increased manifold after the thumping win for the Congress led alliance in the recent general elections. Its very easy to extrapolate expectations and re-rate asset classes. The Indian story looks to have seen a sustainably positive turn, however the rating of markets has been devoid of sanity as too much has been discounted too soon.
In my view, we could be on the verge of shocks. Markets have a tendency to surprise on the opposite side, much to the chagrin of investors. An example here can be the US Dollar. The whole world had a unanimously bearish view at the beginning of 2008, and what did the greenback do? It rose sharply through the year. Are we in for a dejavu? A couple of other indicators point to this too. Risk aversion which is represented by the VIX index looks to be in the process of forming a bottom. A sustained rise in the VIX is dangerous for stocks and commodities due to an inverse correlation. The Japanese Yen, another safe haven instrument in turbulent times could appreciate further and retest the low set at 86-87. The Dow Jones Index has been unable to convincingly breach key resistance levels, which suggests investors are cautious.
Where do we go from here? I believe stocks and commodities could retest their lows and even go lower from there. To cite an example of Crude Oil, i believe crude oil should test between USD 76-78 and then start falling. Purely on a technical basis, a new low could be in the offing. Or would it? Only time will tell....
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