Last year, I was bullish on European shares and this proved the right call as they modestly outperformed. As this year begins, I am doing a lot of thinking about my much-delayed “Ten Surprises for 2011″ post. And as I compile list items, it’s clear I want to be bullish again, this time both on the economy and global markets. But there are a few things holding me back.
Politics is the only thing holding me back on the economic front, frankly. If you look at Ireland, Britain and the US, three of the four big housing bubble markets, house prices have levelled off and are showing modest gains in many respects. Only Spain lags here. And clearly, this has everything to do with politics. The post on the eurozone crisis yesterday showed how much the politics of austerity has affected growth trajectories. One need only look at the chart on Italy versus Germany to see how stark the differences are. If you get the politics right, I think we could see sustainable growth. But that’s another post.
I want to talk about markets here. And this is where I am worried. I am a contrarian. And without looking up what that word means in a dictionary, I can tell you what it means to me off the cuff. It means having the odd predisposition to buck the trend when everyone else is following the crowd. There’s a whole psychology to contrarianism when it comes to social issues since most people feel deeply uncomfortable going it alone when everyone else is moving in a different direction. And while that same psychology carries over to markets, it has some serious implications at market turning points because that’s when everything is going up the most and things look wonderful.
Right now, things look pretty good. In the US, we have had an 85% run-up in shares. Market volatility is multi-year lows. Banks are flush with cash. Mortgage rates are at historic lows. House prices are rising. GDP growth is positive. Junk bonds are the highest flying bond asset class. And even government bonds are doing well, with ten year yields under 2 percent. You look at Europe and once you forget about the economy, things look pretty good too. The ECB is backstopping pretty much everyone except Greece in the euro zone. We had a good run in shares last year. Peripheral sovereign bonds have been monster winners. Ireland and Portugal have joined Spain and Italy on the public bond markets. Spain’s banks are being recapitalised. Irish and Spanish banks are now tapping the public markets at much lower yields. What’s not to like?
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