Jan 27 2008, 09:48 PM, updated 18y ago
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Decoupling: Theory vs. reality
By Conrad de Aenlle Published: January 27, 2008
http://www.iht.com/articles/2008/01/27/bus...link.php?page=1
No one can say how much has been lost by investors basing decisions on unproven strategies that work in theory, but the amount has grown significantly. As trillions of dollars were wiped off the value of global stocks last week, "decoupling" became the latest big idea to shrink dramatically when tested in the real world.
Decoupling holds that European and Asian economies, especially emerging ones, have broadened and deepened to the point that they no longer depend on the United States for growth, leaving them insulated from a severe slowdown there, even a fully fledged recession. Faith in the concept has generated strong outperformance for stocks outside the United States - until now.
As opinion began to solidify after the start of the year that a recession, or something close to it, was likely in the United States, stock prices accelerated their declines, with the selling intensifying early last week. Contrary to what the decouplers would have expected, the losses were greater outside the United States, with the worst experienced in emerging markets and developed economies like Germany and Japan.
Exports make up especially large portions of economic activity in those places, but that was not supposed to matter anymore in a decoupled world because domestic activity was thought to be so robust.
Decoupling was all the rage early last year when international financial markets all but ignored the increasing turmoil in the U.S. economy and stock market. Investment advisers point out, however, that the segments of the U.S. economy that were showing wear and tear then were those to which the rest of the world would never be heavily exposed. That is no longer true, they say, and markets are responding accordingly.
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Decoupling: Theory vs. reality
"Decoupling is yesterday's story," Stuart Schweitzer, a global strategist at JP Morgan Private Bank, said. "Last year, when the U.S. slowdown was driven almost entirely by housing, it made sense that the rest of the world kept right on going. Housing is a domestic story, plain and simple.
"The nature of the slowdown has changed in two key respects. The credit crunch that began in midsummer is not just a U.S. phenomenon; the rise in risk aversion is global and will have an impact on credit terms and availability everywhere. And we're finally seeing evidence that the U.S. job market is losing steam and consumer spending is slowing."
True believers in decoupling have ignored another theory that appears to be logically inconsistent with it, has been popular for far longer and, most important, has been shown to work in real life. Remember globalization?
"If anything, global interdependence of economies is rising, not falling," said Jeff Applegate, chief investment officer of Citi Global Wealth Management.
"The notion that the U.S. can go into recession with no negative knock-on effect in the rest of the world doesn't hold up."
Andrew Foster, head of equity research for Matthews International Capital, a specialist in Asian markets, contends that it is possible for globalization and decoupling to coexist. In fact, one gave rise to the other, he said. It was only through economic liberalization that the juggernaut economies of Asia were able to grow as fast as they have, allowing for the development of conspicuously consuming middle classes.
"The irony is that these economies are more coupled with the rest of the world than they ever were in the past," he said. "That's why they're so strong, and that has allowed them to become more independent."
The new Asian consumers may not be able to compensate for all of the exports that would be lost during an American recession, Foster said, but some of the companies that served their needs might still do all right for themselves. The true decoupling may be not so much between the United States and the rest of the world as between segments of the global economy that cater to the burgeoning nouveau riche in emerging economies on one hand and most other commercial sectors on the other.
With the United States apparently tipping over into recession, Foster is looking to fill his Asia portfolios with the first type of businesses, as long as they have not been bid up to unreasonable levels already. A couple of pockets of opportunity that he finds are Chinese insurance companies and Indian health care providers.
"I like companies that don't derive their fortunes from products, services and especially commodities dominated by the global business cycle," he said, although he declined to furnish examples.
Valuation is also critical for Michael Avery, chief investment officer of Waddell & Reed and a professed believer in decoupling - up to a point. He noted that the concept began to pop into the heads of professional investors, including his, during the last U.S. recession, in 2001-2, although it had not yet achieved buzzword status.
Decoupling: Theory vs. reality
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