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World week ahead: Bracing for the new normal

Monday 16th August 2010

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Forget about what lies ahead because it's already here - slower global growth. 

And get used it, at least that's what an increasing number of market watchers, key investors and even policymakers are telling investors.

It's not a message than anyone wants to hear, except the bears - and short sellers.

If slower growth, and therefore slower growth in corporate profits, aren't enough to push investors to the sidelines or sellers, then talk of pushing US interest rates up immediately seems ill-timed at best.

Yet that's exactly what Thomas Hoenig, president of the Kansas City Federal Reserve, argued for on Friday.

"We need to get off of the emergency rate of zero, move rates up slowly and deliberately," he said.

"This will align more closely with the economy's slow, deliberate recovery so that policy does not lag the recovery."

Hoenig was the one dissenter on the Fed's policy committee which last week seemed to set the stage for a second round of quantitative easing - whereby the Fed would buy more securities in a bid to bolster confidence in US assets.

There is however a debate about whether the Fed should increase its already deep balance sheet with assets that many investors seem lesser value in.

In a Bloomberg radio interview on Friday, Mohamed A El-Erian, the chief executive officer at Pacific Investment Management, said investors couldn't rely solely on the Fed.

"We should not over-depend on the Fed," he said.

"The Fed does not have enough instruments for what we're looking at. You need other agencies to get involved. We're not getting any structural solutions."

Recent data shows that growth is slowing in China and the US as well as the UK.

There's little to cheer about across Europe, except perhaps for Germany. On Friday Germany reported second-quarter growth increased at its fastest rate in two decades in the second quarter. But that growth poses a new set of questions because of widening disparity between nations governed by a common monetary system.

The end result of the lack of clarity on what lies ahead is transforming investors into purer short-term strategists. And one winner is money market funds.

According to Reuters, fund tracker EPFR's data shows investors poured US$5.1 billion in the latest week into money market funds, which posted their first three week run of inflows since the first quarter of 2009.

"Quantitative easing is likely to bring diminishing and ultimately negative returns," noted Max King, multi-asset portfolio manager at Investec Asset Management.

"The signal from markets that the global economy is at risk of a renewed downturn, perhaps caused by policy mistakes, could be right.

King added: "Investors should not rush to liquidate investments ... but should consider keeping sizeable cash reserve for the opportunities the continuing financial crisis is likely to throw up."

As for opportunities, last week the Dow Jones industrial average fell 3.3%, the Standard & Poor's 500 dropped 3.8% and the Nasdaq Composite shed 5%.

Charts show short-term momentum turned negative last week, Reuters said. The S&P 500 closed below its 14, 50 and 200-day moving averages and the moving average convergence-divergence generated a "sell" signal.

While the growls of the bears are perceptibly louder, investors don't seem to be panicked. Volatility is subdued and so too are trading volumes.

Profit reports from some of America's top retailers may overshadow the mix of US economic reports this week.

Wal-Mart Stores, Gap and Target are among the many retailers on deck to report quarterly results.

As for the economic front, US industrial production data is due on Tuesday, along with housing starts and the government's Producer Price Index report this week.

On Thursday, two regional US Fed presidents are set to speak: James Bullard and Charles Evans.

Regardless of what the tea leaves show this week, slower growth is here and here to stay. It is the new normal. It's not however the end of the world, despite what some perma-bears would have you think.

The new normal requires a more strategic look at one's bets. And perhaps Pimco's El-Erian approach is worth a look: look for higher-quality assets in different parts of the world.

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