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A world of surprises: The lessons from global stocks' resilience

July 16, 2013

What happened to the global stock market crash?

The United States didn't fall off the fiscal cliff. The euro didn't break apart. China's economy didn't land hard. Global stock markets didn't crash. In fact, they've been surprisingly strong.

"We've gone from high fear to lower fear over the last year," said Vanguard senior economist Roger Aliaga-Díaz. "Equity markets have been running high because many of the most acute risks didn't materialize."

Surprising markets?

Ever an uncertain world

Roger Aliaga-DiazGlobal markets and economies are full of surprises. "It's difficult to make market calls above and beyond what the markets have already priced in," Mr. Aliaga-Díaz said. "Not only do you have to be systematically correct everywhere, but everyone else has to be systematically wrong."

Yet despite the worst cases not having materialized, economic risks remain, Mr. Aliaga-Díaz said. Markets became volatile after the U.S. Federal Reserve raised the possibility of "tapering" its stimulus measures. Concerns persist about the strength of China's economy.

All of this is good reason to diversify investments around the world and among asset classes, and not try to time the markets, said Mr. Aliaga-Díaz, who offered his insight on some of the world's largest economies.

The United States and Canada

The U.S. economy remains full of questions. When will the Federal Reserve start to withdraw stimulus? How much will the fiscal drag of sequestration―across-the-board cuts in federal spending―be felt over coming quarters?

But, Mr. Aliaga-Díaz said, "This is a resilient economy." Inflation is well below 2%, and the economy is growing despite the fiscal drag. The private sector is helping to keep the economy afloat, he noted.

U.S. gross domestic product grew 1.8% in the first quarter, according to the U.S. Commerce Department, while government spending fell 4.9%. Accounting for that fiscal drag, the private sector alone would appear to be contributing 3% to 3.5% of GDP growth, Mr. Aliaga-Díaz said.

He points to a paradox. "Unemployment is still stubbornly high," he said, "but it could go even higher if the economy improves." The U.S. unemployment rate fell to a four-year low of 7.5% in April before bouncing back up to 7.6% in May, according to the U.S. Bureau of Labor Statistics. The unemployment rate doesn't account for people who have stopped looking for work, so it can rise when more people resume their search as the economy improves.

Canada, meanwhile, will continue to take its cue from the United States, Mr. Aliaga-Díaz said. "If we think the U.S. is going to do better by the end of the year, it should be good news for Canada as well," he said.


Who would have predicted what happened in Japan? A prime minister who had resigned after less than a year in office in 2007―Shinzō Abe―regained the office in December 2012.

Mr. Abe provided more assertive fiscal and monetary policy than Japan had seen in the previous two decades, boosting domestic markets. "Japan has been instilled with a sense of optimism," Mr. Aliaga-Díaz said, "a sense that some of these policies may be working."

Helped by a more than 8% weakening of the yen compared with the U.S. dollar in the first six months of 2013 (source: Thomson Reuters Datastream), inflation expectations in Japan now run 1.4% to 1.5%, a welcome development in a nation that had suffered through deflation since the early 1990s, according to Mr. Aliaga-Díaz.

And Japan's signature stock indicator, the Nikkei 225 stock average, rose 31.6% in the first six months of the year, to a nearly five-year high.

Mr. Aliaga-Díaz noted that Japan's monetary experiment began only in April, and he cautions that it's still too early to judge recent success in hard economic terms. Only "soft" indicators such as consumer confidence, inflation expectations and business sentiment have picked up, he said, adding that first-quarter numbers for GDP, trade and construction were up owing to the very low base of a year earlier.


Many investors thought China's economy was going to have a "hard landing" last year, a reduction in growth to 6% or lower, Mr. Aliaga-Díaz said. But growth stabilized at 7.8% for 2012 and second-quarter growth this year came in at 7.5%, according to the National Bureau of Statistics of China.

China: Still growing but maturing

But concerns of a slowdown have resurfaced. Industrial production, fixed investment and export growth have slowed considerably. And while the Chinese government came to the rescue last year both through monetary policy and infrastructure spending, this year it has adopted a more passive approach, even announcing a lower growth target of 7.5% for the year.

Mr. Aliaga-Díaz foresees China's growth in the near term at a 7% to 7.5% annualized rate, much lower than the 9% to 10% in recent years. And he expects even slower growth, in the 5% to 6% annual range, during the second half of this decade as the economy undergoes structural changes.

"It will be important for China to rebalance and boost internal consumption," Mr. Aliaga-Díaz said. "There are fewer easy sources of growth.

"Still, I'm not completely pessimistic about China," he continues. With a population that is 50% rural, urbanization is still on the rise (source: National Bureau of Statistics of China), providing a still-growing labor supply that can both help China compete in export markets and provide a growing consumer base to expand the depth and breadth of its internal markets.


Recession drags on in Europe. Even Germany, a source of economic strength, grew just 0.1% in the first quarter, according to Germany's Federal Statistical Office.

A year ago, the outlook was much worse. But rather than crumbling, the euro, the common currency for 17 European nations, has remained intact, thanks to crucial intervention by the European Central Bank (ECB).

While real economic pain has spread throughout Europe, the ECB's backstopping of the financial crisis allows for what may be a slow process of generating growth. Structural reforms are starting to bear fruit, Mr. Aliaga-Díaz said, with labor costs falling in a process that could aid competitiveness.

Even Spain and Greece―among the most distressed European economies, with unemployment rates above 25%―have reduced deficits in their current accounts, imports and exports of goods and services. "These are the deficits that fueled a credit boom that went to housing in Spain and government in Greece," Mr. Aliaga-Díaz said.

It's important that no more credit flows into unproductive investments in Europe, Mr. Aliaga-Díaz said. From an economic standpoint, "Housing is not especially productive. It just sits there and doesn't do anything."

A final thought

Global economic growth remains subdued, but the outlook has improved. "One year ago," Mr. Aliaga-Díaz said, "we were counting the days until the euro fell apart. The U.S. fiscal cliff was looming, but didn't fully materialize. And China didn't land hard, didn't fall to GDP growth of 4% to 5%."

Surprises? The world is full of them.


  • All investments are subject to risk, including possible loss of the money you invest. Foreign investing involves additional risks including currency risk and country/regional risk.
  • There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income. Diversification does not ensure a profit or protect against a loss. Past performance is no guarantee of future results.
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