subject: The Austrian School And Easy Money [print this page] Easy money has a funny way of falling through your fingers almost as quickly as it lands in your hands.
Have you ever wondered why lottery winners are never featured in the top rich lists of the world? A study in the UK which examined lottery winners found that 44% of the money they had won had been spent within five years. (Camelot Group UK, 1995.)
What about when it comes to governments instead of individuals having access to easy money? Governments are lucky in that they don't have to wait for a lottery win for easy money. Instead, they just turn to the trusty printing presses of the Central Bank.
Austrian school
One of the most impressive presentations I've seen is by Dr Frank Shostak.
Dr Shostak is the Chief Strategist Asia Pacific for MF Global, the former trading arm of Man Financial, the world's largest hedge fund. He uses the teachings of the Austrian view of economics as a platform for his economic analysis.
Austrian economics, amongst other things, supports the view that entrepreneurs are the driving force of a country's wealth creation and prefer a limited role of government intervention in an economy.
Recently I attended Dr Shostaks's round table discussion about the global economy. He put forward the view that governments, by printing money and spending it, take away from the real wealth creators in the economy and hence hurt long-term growth.
Australian playground
The measure of Australia's overall economic output (our gross domestic product) is measured by investment, consumption, net exports and government spending.
With investment and consumption falling during the global financial crisis, the Government increased it's spending so we wouldn't see a technical recession.
But the problem with governments doing this is that it can create a mal-alignment of capital, meaning money is invested where there may not be sustainable demand.
Stimulus package
Take the stimulus payments in Australia.
In March 2009 Wayne Swan's stimulus package dispatched $900 to most Australians, which caused a spike in retail sales. So it was happy days for retailers such as Harvey Norman.
The problem was, this demand was not a natural spike. The demand was artificially created. It was future demand bought forward. And the result was, it created a little bubble.
Now that this stimulus has moved out the economic system, we're seeing that bubble of demand bursting.
The effect?
> Harvey Norman (HVN) shares are down 21% in the year to date
> David Jones (DJS) shares are down 21% in the year to date and
> Myer (MYR) shares are down 16% in the year to date.
So, was the stimulus package the right thing to do? Did it start a chain reaction of economic activity or was it simply a blip on the radar (ie a statistical recovery)? Only time will tell.
Global stage
In truth, what's been happening in Australia has been happening on a much larger scale in the US, UK, China and Europe.
Our sharemarket isn't just focused on what's happening in Australia. It's looking at the impact that all this easy money filtering into the US, UK, Europe and China is going to have in terms of economic recovery all over the world.
So you also have to ask yourself: has that easy money simply created a mis-alignment of capital? Will these bubbles burst? What happens when the easy money is no longer pumped in? Can economies stand on their own two feet without the helping hand of the state?
Implied volatility and XJO
The sharemarket is considering these difficult questions and the answers aren't forthcoming, which unfortunately signals that perhaps it's going to be a difficult road ahead.
Volatility is a trader's friend but an investor's worst enemy. So what can volatility tell us about the sharemarket now?
In the US, traders watch the fear index or VIX (volatility index). In Australia, it's not as liquid but we do have the implied volatility index (the Aussie VIX).
Below is a chart showing ASX 200 (XJO in black) with implied volatility (IMPVOL.ASX in green).
Notice that the two lines have an inverse relationship? Implied volatility tends to be a forward indicator of a turning point in the market. (Read more about leading and lagging indicators).
So at the moment, implied volatility has started to turn up. If this inverse relationship continues, that means that things are looking bearish for the market.
So have a think about the stance of governments and central banks around the world and factor that into your share trading strategy.
