(MONDAY 3RD OCTOBER - 6.04AM - JAMES GERRISH)...It was the end of the month and end of the quarter on Friday and the figures for the period are quite concerning. Before I go through them, I want you to keep in mind that MKTs bottom at the height of bearishness just as they top out at the height of optimism!
From what I can see, its pretty darn bearish out there at the moment and if we do see some type of positive progression in Europe, the market could rally hard into Christmas. We'll discuss what would need to happen here shortly.
So for the quarter, the S&P/ASX 200 fell a total of 598.5 pts from 4607 to 4008.5 on Friday. That's a decline of 12.99%. In the States, the DOW JONES lost 1501pts in the 3 months chalking up a decline of 12.09%
Commodities were hit fairly hard particularly in the last month and it seems we're pricing in a real chance of a global recession (even though the data doesn't support it at this stage).
The Commodity index lost 11.8% for the period.
So certainly not the most compelling reading for a Monday morning but it does prompt the obvious conclusion that it seems we're nearer the completion of the correction than at the start of a further, more aggressive move lower.
On the MKT on Friday night, the DOW JONES fell -240pts while the S&P 500 was down -2.5%. Locally, the SPI FUTURES are pricing a drop of -81pts when trading kicks off Monday. Also bear in mind that Mondays trading will be on light volume given NSW, SA & ACT are on holidays.
EUROPE
Remains the biggest game in town and last weeks move to increase the size and scope of the European Financial Stability Fund (EFSF) was a major step in the right direction. It was also encouraging to see Germany come out in full support of Greece while for its part, Greece pushed through an important bill in Parliament to increase property taxes.
We're in the throws of the TROIKA (reps from the, EC, ECB, IMF) going through the Greek books so the next E8 billion in aid can be administered. We expect this to happen in the next week or so but its probably already been priced into markets.
From my understanding, it seems inevitable that Greece will default at some point in the future. The credit markets are pricing this as almost a certainty within the next 5 years but I think it will be sooner.
The main issue though isn't really if Greece defaults or not, its what it means for Greeks creditors. As it stands, Greece has about E280 Billion in debt, mostly held by French and German banks.
A straight out disorderly default would be catastrophic to these banks and the rest of Europe generally as contagion fears would really escalate. Best estimates are that they would need about E1.5-2 Trillion to recapitalize European banks.
I don't think it would be too much of a stretch to say that we'd likely see a protracted global recession and mass discontent through out Europe. Clearly a situation best avoided and one I very much doubt will happen.
We do know that Greece is in a unsustainable position and that austerity measures will help in the short term, but a society won't put up with them forever. There needs to be a restructuring process and those institutions holding Greek debt need to take a haircut on their holdings. As it stands, a cut of 21% was the agreed figure but we've now got some members calling for a higher figure.
This means that banks and other institutions holding Greece debt will have its value written down on their books. This could be problematic but there isn't really much of an alternative.
It also seems likely that the EFSF would step in and cover the debts with its own borrowings. In essence, it means that the Greek debt will be covered by using the EFSFs AAA credit rating (= cheaper money), guaranteed by Germany (and probably funded by China).
The value of this plan comes in the fact that it could also be rolled out for other nations that are in trouble (Italy, Ireland, portugal etc) if the EFSF is made large enough over time.
This is the plan I think will eventually happen but we haven't got final clarification around this. If we do get some certainty here, I think mkts will rally as a result.
GROWTH IN CHINA
I read a fairly alarming stat last week provided by the Bloomberg Global Investor Survey. 59% of those surveyed (1100ish fund managers/traders) thought that China would be growing at under 5% PA by 2016. (currently >9%)
I was on SKY BUSINESS on Friday and mentioned it but everyone thought I was mad. I don't necessarily believe it myself and I don't think the evidence is there (yet) to support the claim but it does prompt some questions about what this would mean for some Australian mining companies.
Fortesque Metals (FMG) reported strong production figures on Friday and are on track to ship 55 million tonnes of Iron Ore this year. They have plans to increase this to 155 mtpa by 2014 en route to 350 mtpa.
The Iron Ore price currently sits around $160 a tonne while FMG is getting the Ore out of the ground and shipping it for about $50 a tonne. To put this into context, it mines about 100,000 tonnes a day worth about $20 million. A cash cow you'd call it and if Iron Ore prices stay at these levels, FMG at $4.42 looks massively cheap.
But what if Iron Ore doesn't stay at these levels? FMG is only exposed to the one commodity and has one export destination (at this stage). It has about $4 billion in debt and the expansion plans will dramatically increase this amount.
If China does slow to 5% growth, demand for Iron Ore will fall at a time when production has been ramped up aggressively. FMG is not alone with its expansion plans, RIO TINTO is even keener to grow earnings from Iron Ore while BHP is also in the mix.
I want to make it abundantly clear, that I am a believer in the growth in China and other emerging nations. I personally think that Iron Ore prices will stay at elevated levels for some time (al- be- it probably lower than where they are today), and that Australian resource stocks will prove to be a good investment over time.
My main point here though is that its essential to understand to possible risks of an investment. I would be reluctant to put a clients
retirement next egg in a company with such reliance on a signal commodity and growth story, that is going to dramatically increase its debt position.
If China slows, Europe's debt issues escalate and debt markets seize, FMG is not a company I'd like to own. Food for thought!
WHAT ARE WE DOING?
We've maintained the view throughout the recent turmoil that its worth having a degree of cash (absolute min 30%) in accounts to take advantage of opportunities as they arise. We've deployed some of this on days when we think the market has been overdone and our emphasis for longer term investors is on stocks that are likely to grow earnings and importantly dividends over time. SEE RECENT ARTICLE HERE
We also combine Options in the majority of client portfolios and this gives another level of flexibility. So we've certainly felt some pain from the recent moves and short term trading remains fairly difficult, but we've got a structure that we work within and this has proven to be successful over time.
We've recently bought - CBA, QBE, ANZ, CPU, AWC, IPL, MTS, FWD, BKN, QUB, CEO, HAR, VOC
