The slowdown in global economic growth over the more than 10 years since the Global Financial Crisis (GFC) seems to have bottomed out. Sharemarkets (by definition, an indicator of future company cash flows and profits) have had a stellar 2019 and started 2020 in the same vein, much to the delight of investors. Given that most of us are (or should be) KiwiSaver investors, that is good news.
Yet, other key forward indicators are proclaiming the opposite. Prices for industrialised commodities (e.g. oil, iron ore, aluminium and copper), global bond yields and official (central bank) interest rates not only are below 2019’s peaks but also are well below their respective peaks since the GFC.
Many (including the writer) attribute rising sharemarkets to historically low funding costs as a result of low benchmark interest rates and credit spreads.
Low benchmark interest rates are the legacy of central banks’ vigorous monetary easing since the GFC, to avoid a repeat of the economic and geopolitical devastation after the 1929 sharemarkets’ crash, and the interest rate markets’ response to still sluggish economic growth and inflation.
Low credit spreads are the result of investors chasing yield in a low interest rate environment but, in doing so, they are lowering their risk tolerance. That, in itself, is another worrying sign that the financial community has leveraged its investments. Leverage is a useful business tool but too much leverage reeks of greed. And, unlike a Gordon Gekko, I believe that greed is anything but good.
I really hope that the messages from sharemarkets and credit spreads presage the future. But I am not hopeful, although I want to be for the sake of my family, especially future generations.
Over-enthusiastic sharemarkets and credit spreads were signs of greed that preceded the GFC and the crashes of 1987 and 1929, among others. Furthermore, bond yields have been a more consistent forward indicator than sharemarkets and, historically, the longer that bond yields and sharemarkets have proclaimed divergent outcomes, the more reliable has been the message from bond yields.
I do not know the future. No-one does! A prudent risk manager assesses all the risks in the context of risk preferences, objectives and the intimate relationship between risk and reward.
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