FOMC Over-Dose And China Surprises In 2010

It rather looks like FOMC over-dosed yesterday, by promising to withdraw liquidity a bit faster than expected? Citigroup messes the financial bed, although Basel was seen as a financial positive in Japan yesterday.

Well, do you know the digital era of financial markets? You make or break! It is, however, never too late to learn.

Now, let's race to the research factory gates of Morgan Stanley. The wise strategists have a message:

Whatever is in the share price cannot move the share price: In other words, any information that the stock market has good visibility on and / or strong consensus on does not move the stock market in the future. Equities move on expectations and it is always what moves the expectations, i.e., the surprises to the consensus view, or the developments in the uncertainty, that move the stock markets. While we have confidence in our difference from the consensus view, it is also important to highlight what could logically develop to surprise the consensus and even ourselves, to move the market beyond our current expectations. We start with a potential surprise for 2010:

The downside surprise – an inflation shock: Our base case is built on the assumption that inflation will remain moderate in 2010 (our economist expects 2.5% inflation in 2010). This is a very important assumption because if inflation
surprises, so will everything else (policy and growth). In fact, we think inflation is the most important macro call for 2010.

Click on chart to enlarge, courtesy of Morgan Stanley.

And the conclusions are straight forward:

1) A weak global economy is most favorable for China’s equity pricing, because it means low cost of capital and low inflation (our base case view).

2) Chinese equities will fall, even if growth shocks on the upside, if inflation becomes visible.

3) The extent of a peak in Chinese equities is largely dependant on global inflation and global growth in 2010 (changes to cost of capital and risk appetite), given that China’s domestic growth looks buoyant.

Food and energy "asset reflation" are the best recipe for "recovering" ... in bust!