Edwards: Technicals Say It Is Time To Bail Out

The respectful Albert Edwards, the global strategist at Societe Generale, has been an ueber-bear for years.

The key message today:

After increasing our equity exposure at the end of October we believe that the market is set to quickly slide sharply towards our 500 target for the S&P. While economic data in developed economies increasingly reflects depression rather than a deep recession, the real surprise in 2009 may lie elsewhere. It is becoming clear that the Chinese economy is imploding and this raises the possibility of regime change. To prevent this, the authorities would likely devalue the Yuan. A subsequent trade war could see a re-run of the Great Depression.

Economic data has been truly dreadful through the fourth quarter. Over a year ago we forecast deep US recession. As it had not suffered one since the early 1980s, we thought this out-turn would shock. Yet recent data has been consistent with something far worse than deep recession. There is no agreed definition of a "depression" as opposed to a deep recession. But The Economist magazine is probably more qualified than many to take a view. They consider a peak-to-trough decline in GDP in excess of 10% a reasonable definition... We had been thinking of deep GDP declines of the order of 5% peak to trough but we are now thinking that this view might be too optimistic.

But, until yesterday, equity markets had been paddling quite happily sideways for most of the last few months. They have been broadly flat since we increased our equity weighting sharply on 23 October. Within that time the intra-day "peak-to-trough" rally in the S&P was a creditable 28% from 740 low of Nov 21, but we do not claim to have captured that. Nevertheless we feel very comfortable that the technicals at the end of October cried out to close our extreme underweight equity exposure. They now tell us to cut exposure again.

2008 was a shock for investors. But 2009 could be an even bigger shock. There is evidence that the Chinese economy is imploding (see chart). Investors should consider what would happen if China descends into social chaos. Yuan devaluation could spark a 1930’s style trade war. Do you really trust the politicians to "do the right thing"?

Scary! Consider as a probability!