Things Can Always Get Worse

For Asia, this is not the worst financial crash since 1929. It is payback time for several years of generous expansion in stock prices almost everywhere, and so far the falls are still small — although they could well get worse — compared with much of what happened during the 1997-1998 Asian crisis, and puny compared with events in Hong Kong during 1973-74.

In early 1973, the Hang Seng had risen more than 200 percent in the space of a year. Hit first by the natural momentum of exhaustion, it started to fall from a peak of 1,770. At the end of 1973 the world was hit by the first oil shock, with oil prices quadrupling. A year later the world was in recession, banks were going bust in Europe and the US, the UK had one of its periodic housing and finance busts.

The Hang Seng just kept on falling eventually hitting a low of 150. In other words, shareholders had lost more than 90 percent of the peak valuation. But things were not that much better elsewhere. In the UK the FT Ordinaries index also hit 150 at almost the same time. The Hang Seng even after the latest trauma is almost 100 times its 1974 low and nine times its peak during the mad bull market of early 1973.

One does not however have to go back 35 years to find numbers which put recent falls into some perspective. The Hang Seng is even now seven times its 1990 level and 50 percent above its low at the time of the SARS crisis five years ago. The Mumbai index may be half its all time peak, but it is still three times its level just five years ago. Seoul is still four times its 1998 low and well above its pre-Asian-crisis level.

The daddy of them all, the US S&P 500, may seem sick but it is still more than 10 times its level of 90.19 in 1975 and even allowing for recent falls is trading at 12 times historic earning and probably closer to 20 times the earnings outlook for 2009. Even now it is twice its 1995 level so still ahead of inflation since then.

Recent falls however have also been a reminder of how long it can take to get back to previous highs, particularly when they were bubbles of major magnitude. For instance the Nikkei, which had seemed on a recovery road, has lost 50 percent in a year and is now just 25 percent of its all time peak reached almost 19 years ago. Taiwan is not much better, at less than half its all time high despite offering the lowest PE ratios and highest dividend yields in Asia.

For sure, this crisis could well be far worse than any of the others since 1929 because of the collapse of so many banks and so of the confidence needed to sustain an international market system. But what is surprising is not that stocks have fallen so far and fast in the past few days, but that they did not fall much earlier as the depth of financial problems became so evident. For long stocks acted on the assumption that bail-outs and liquidity injections would resolve financial problems before the real economy was hot by a body blow.

Now investors have awakened to the fact that that is not the case and that the global economy is in for some very rough times. Worse than that from a shareholder perspective is that it will almost certainly be accompanied by a sharp decline in corporate profits’ share of national incomes around the world. That had been increasing for several years, underpinning stock valuations. Add in lax monetary policies and low real interest and there was a perfect climate for stocks. That has now become the perfect storm.