Excessive optimism the biggest mistake of 2008

PUBLISHED : Friday, 19 December, 2008, 12:00am
UPDATED : Friday, 19 December, 2008, 12:00am

Normally, the word 'I' should have no place in a financial column like Monitor. But once a year I make an exception to the rule, looking back at the columns I've written over the last 12 months and seeing what I got right and where I went wrong.

I do this usually at New Year, but as I will be away for the next few weeks, this seems a good time to review my hits and misses of 2008.

Certainly, 2008 was a tremendously difficult year for anyone trying to peer into the financial future. There was an awful lot to be wrong about, and I got a lot of it wrong. But although I've been criticised by some readers for being too pessimistic, my biggest mistake of the year was being too positive on Hong Kong's outlook.

On December 31 last year, I wrote 'although 2008 could well be another volatile year, asset prices are likely to carry on rising in coming months. In fact, there is a real probability the bull market in Hong Kong stocks and properties could inflate into a full-blown bubble next year.'

The reasoning was simple. With inflation rising and interest rates negative in real terms, I reasoned savers would take their money out of bank deposits, where it was losing value, and invest it in asset markets.

That turned out to be wrong, but in retrospect, only half wrong. As the first chart below shows, the stock market had a terrible 2008. But the story in the property market was different, at least during the first few months of the year.

Between September 2007 and March this year, residential property prices climbed 27 per cent, according to the Centa-City index. That rise carried home values to more than double their 2003 low and did indeed leave the market looking bubbly. Prices have now fallen 21 per cent since June.

Although my initial Hong Kong stock market call was wildly out of whack, I had considerably more success in other areas.

For one thing, I was always sceptical about the commodities boom, arguing that the sharp run-up in prices over the first half of the year had far more to do with financial speculation than robust underlying demand for physical materials.

So last January, with the price of oil touching US$100 a barrel, I noted how 'hedge funds have switched from playing the debt markets to trading oil' and warned that when the speculative bubble burst 'we could easily see crude drop back to US$75 a barrel'. It was a warning I repeated in May, with the oil price at US$128 and analysts forecasting US$200 before long. Looking back, my predictions for the extent of the likely fall were far too modest. Yesterday, crude oil was trading at just US$40 a barrel.

I was also close to the mark with many of my predictions about the mainland's markets and economy. During the first half of the year, I warned repeatedly that Beijing's efforts to prop up the ailing A-share market would fail, and that the market would have to find a natural bottom. Between January and November, the Shanghai composite had dropped 69 per cent.

My warnings that the mainland authorities watch the yuan's trade-weighted basket rather than its US dollar exchange rate when managing their currency policy, and that they would not hesitate to steer a depreciation should export demand weaken, also proved correct. As the second chart below shows, the yuan's trade-weighted index has fallen 6 per cent over the last month.

But my best call of the year was probably the warning, first delivered in March, that the hedge fund industry was in trouble and at risk of 'a mass deleveraging that will hammer financial markets around the world'. It was a warning I repeated at the beginning of October, arguing that stock markets were in imminent danger of going into a 'death spiral'. Over the next few weeks, Hong Kong's Hang Seng Index plunged 40 per cent.

Hopefully, that timely warning made up for my misguided optimism earlier in the year.