2009 Ending Note

End of the year is just two days away. For those stayed with the market, cheers for having had a smooth ride up and ending with a smile! Personally i have stayed neutral for majority of the time. I enjoyed the moment watching equity account doubling however regretted having to give back most of it on the currency positions. Over-confidence coupled with strong belief, when it turns out to be on the wrong side, is damaging. Staying neutral in a either up or down market is a losing proposition, nevertheless, i felt no longer confident in projecting the market reaction to the events happening from the beginning of the year to March... even when apparently Fed's buttressing Citi Group seemed to have signaled that that ought to be the end of big bank failures. (I need a separate and more detailed report on the events leading to March lows but i still doubt that i am able to find out sufficient hints for a market bottom). I made some bets on both Citi and BOA at that time but quickly exited seeing 10% profit in two weeks. I couldn't have caught the bottom. Rules seemed no longer to apply. It looked like 1930s-repeat. But i forgot "History never repeats itself". Anyway, for the subsequent 3 more months, I stayed as an observer. It was better to do so.

The past 24 months - 08 and 09 - without doubt, have marked their significance in the world's financial history. Wealth were destructed in scales unprecedented in almost anyone's living memory (except those lived through 1930s). The very foundation of the capitalist society was, at one moment, at the verge of total collapse... The doctrine of "efficient market", the "fundamentalists", the very theory the capital market was supposed to function around, were thrown into doubts again... or is market inherently unstable? Capitalism, if left unchecked, always swings to extremes of euphoria or depression? Do we need a new paradigm such as that claimed by George Soros so his "reflexivity"?

Crisis no longer only happens in the "fringe countries", or in a better name, "emerging markets". The shock wave emanated from the center and no one escaped. Some withstood it better - China, East Asia, Brazil... some were near complete blown-away - Iceland, Ukraine, Vietnam... The Bretton Woods circle is weakened. The world seems increasingly uncertain. What would be for 2010?

Will Feb keep interest at historical low for an extended period, maybe next half of 2010 or even 2011? So would other countries continue the competitive debasing of their currencies? I have not completed the thoughts on positioning for the next 6 months but that's the basic questions in mind and the affirmative answer to both questions seems to be a viable scenario due to my inclination to believe that the Fed (in fact all governments around the world) will try everything to avoid being blamed for repeating the 1937 mistake (withdrawing support "pre-maturely") so will welcome "some" inflation against which it believes itself has more tools to tweak. Chinese Premier Wen made the statement along the same line today... Asset inflation is already acute in China but it looks it will last for a little longer.

Hence, i will keep long commodities (not Gold), commodity currencies, certain relatively low-priced equities, housing in China (physical). It's a base scenario for 6 months and adjustment may come earlier than later if inflation starts to run amok and tightening in Asian countries will happen ahead of US whose high unemployment rate could accompany continued real problems in financial sector (CMBS, elevated mortgage/consumer debt default rate) and political pressure. Looking beyond 6 months, I am not convinced that excessive liquidity can prop up weakness in the economy for long. There will be some adjustment in equities and risky assets when liquidity support is withdrawn.

On China property sector, as at now, i do not believe measures claimed by government will effectively cool down the property market. The monetary policy and the GDP targeting (or shall i say "mandate"?) in a bigger picture, is working against it. I will not be surprised to hear that this year housing-related activities contributes to more than a quarter of the GDP number or even close to half of the achieved 8.6 per cent growth. It's evident that export markets recovery is painfully slow - Nov number is still -1.2% yoy and -18.8% for first 11 months. Mortgage and real estate loan provide the best target for credit expansion. This self-reinforcing exercise ("Reflexivity" in play) will not end until we begin to see withdrawal of excessive bank lending. In my view, the design of China's housing market is fundamentally flawed due to ill-incentivised government planning, in addition, the past crisis has created much moral hazard issues, especially with those large state-owned companies. The price is beyond reach of average people based on the income level and is not sustainable, however at its current design, the game will continue until a big bang, unless the government can create some mild recessions to prolong the final bang and make structural changes along the way.

That's the fallacy of life... i begin to believe more in what George Soros named "Reflexivity". Humans are full of flaws and many tend to be self-reinforcing. That is why free markets are inherently unstable, if left unchecked. The past crisis will not be last one.