THE respected Bank Credit Analyst of Canada proclaims: ''The tell-tale signs of a looming equity market decline are in place. We recommend that investors keep equity positions to a minimum. We continue to regard the stock market as very high risk. Over-valuation and speculation remain at an extreme and liquidity is eroding. Our Financial Liquidity Index has given a bearish signal for the first time since 1987.'' It further states that a bear market may have already begun and that it expects a sharp correction of at least 15 per cent in US equities.
Perhaps the major key to the US economy and stock market is the US monetary policy. Since the US economy and stock market are the pointer dogs for the world, including Southeast Asia, the fact the US policy is highly expansionary is a matter of concern for Hong Kong. Even after three electric prods by the Fed, the yield curve still has a steep positive slope and monetary growth is quite slender.
This century's history indicates economic disruptions follow a decline of real monetary growth and an inversion of the yield curve.
While it has been possible in previous eras such as the 1960s to have growth without inflation, those circumstances are different from today's.
Thirty years ago, the US was a net creditor nation and personal savings were four per cent of GDP in 1962 and six per cent of GDP by 1970. Those conditions do not exist in 1994. Fed chairman Alan Greenspan said recently real short-term interest rates were below the equilibrium rate that would prevent growth without inflation. The Fed Funds rate must go to five per cent by the end of the year to prevent inflation.
Since inflation in the US is now reported to be three per cent, two per cent real (real meaning interest rates minus rate of inflation) short-term interest rates, such as existed in the 1960s, will require an increase in rates from today's 3.75 per cent to five per cent. This means the US Fed Funds rate must go up or there will be inflation beyond anything anticipated now.
One can only fear what will happen to US bonds and the US and Southeast Asian stock markets if US Fed Funds rates go to five per cent.