India’s economy can overtake China’s if it can stay on track
But complacency toward reform and trade links could haunt New Delhi
Alicia Garcia-Herrero
April 12, 2024 17:00 JST
Alicia Garcia-Herrero is chief economist for Asia-Pacific at investment bank Natixis in Hong Kong and an adjunct professor in the economics department of the Hong Kong University of Science and Technology.
Will India’s gross domestic product ever surpass that of China?
Ten years ago, no one would have given this question much thought. But times are changing. The Chinese economy may now be more than five times larger than India’s, but India is growing much faster than China, and no one expects that to change anytime soon.
Already, since 2010, India’s economy has overtaken those of the U.K., France, Italy and Brazil in size. Japan, which last year slid behind Germany to become the world’s fourth-largest economy, is set to be the next to fall behind India, sometime in the next few years.
Unless there is a major shock then, the Indian economy is on track to converge in size with that of China over the coming decades. Whether Indian output will actually overtake that of China is hard to predict, since that will depend on how swiftly Chinese output decelerates and how long India continues to benefit from conditions favorable to its growth momentum, including an expanding, urbanizing population and Western investment interest in the country as a hedge against dependence on China.
China’s growth rate has been coming down from its previous double-digit pace since 2010, with the government this year aiming simply for a rate of “around 5%.” But for an economy with a per capita GDP above $10,000, 5% growth would already be exceptionally good. South Korea is the only country to have reached that income milestone and then sustained average GDP growth above 5% for another decade.
Chinese growth will likely have its ups and downs in the coming years, but its structural deceleration is a fact of life. Every factor behind China’s potential economic growth is slowing, including potential contributions from labor, labor productivity and investment. Returns on investment have been coming down for the past decade and are now similar to those of developed economies.
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Without major structural reforms, China’s growth rate will subside to about 2.4% by 2035. It will then continue to slow as China’s urbanization rate, currently at 60%, approaches the 75% of developed economies. As the country’s overall population declines , the pace of annual growth may hover around 1%, like that of Japan today.
India is at a very different point in its development. Over the last decade, its average growth rate has been about 7%, which should be sustainable given that even with recent urbanization, only about 35% of its population lives in cities.
India can also be expected to draw significantly more foreign direct investment into its manufacturing sector. Such flows provided a significant lift to China in past decades, but now foreign companies and government are looking for alternative production bases amid the great power competition between Washington and Beijing.
India’s central role in the Indo-Pacific region, anchored by the world’s largest population and the country’s rising economy, will lock in U.S. interest. The European Union, too, is keen for India’s momentum to continue as it battles over export markets with China.
One key uncertainty with this picture involves Chinese innovation. China has been increasing spending on research and development to levels similar to those of developed economies, though the amounts remain much lower than those of South Korea or the U.S. This investment has already been paying off, with China moving quickly up the ladder in many industrial sectors and making breakthroughs in a number of scientific fields.
However, this innovation drive does not seem to be generating any productivity gains in terms of China’s total factor productivity. This phenomenon, which bodes ill for reviving China’s growth momentum, appears related to the lack of substantial economic reform over the last two decades.
It can also be traced to the increasingly difficult environment facing the most vibrant part of China’s economy, the private sector. Adding in headwinds from Washington’s tightening technological containment measures, it is difficult to be optimistic about Chinese growth.
At the same time, it is worth asking whether India might fail to sustain its current momentum. It would not be the first time. Do not forget that India’s economy was not much smaller than China’s as of 1990. But excessive planning and government-led industrial policies, and a lack of agricultural reform, held India back as Chinese growth exploded.
Reflecting on China’s experience, India will need to work harder on its own “reform and opening up” agenda.
Reform moves by the government of Prime Minister Narendra Modi during his second term, which is about to come to an end, suggest that he had gotten the message. But it is an open question about what direction he will take should he win a third term, as expected, when Indians go to the polls later this month.
Modi’s “India First” agenda, which carries a clear tone of self-reliance, especially as far as the industrial sector is concerned, is worrying. His divisive social agenda also could bring headwinds.
Yet, all in all, India seems set to have an economy as large as that of China by around the middle of the century, as well as a much larger population. Crucially, whether India manages this feat will be in its own hands. Complacency about reform and openness will be just as problematic for New Delhi as it is now for Beijing.
This time, India’s rapid economic growth has legs
Factors that previously sapped momentum have finally been addressed
Richard Yetsenga
February 16, 2024 17:00 JST
Richard Yetsenga is chief economist and head of research at ANZ Banking Group in Sydney.
The high quality of the Indian economy’s recent performance is inarguable. The country was the fastest growing major economy in 2022 and 2023 and is forecast to be so once again in 2024.
There are three tailwinds that suggest this torrid growth phase could last quite some time yet.
The first is the base. India became a low-middle income economy only in 2018 and it was not until after the COVID pandemic that per-capita gross domestic product sustainably eclipsed $2,000. The gains from reform will inevitably be greater when the starting point is lower.
But economic tinder still needs the spark of reform, the second factor. Here too, recent progress is palpable, however.
The introduction of a national goods and services tax in 2017 simplified a complex web of central and state taxes and helped streamline the movement of goods across India’s 36 states and territories.
The rate of highway construction has tripled since 2015. Capital expenditure on railways, as a share of GDP, has more than doubled over the last decade.
Both the World Bank and the International Monetary Fund have hailed India’s world-class digital public infrastructure, which has enabled the government to better target welfare programs and improve tax compliance.
Human development indicators show similar trends in improvement. Access to flushing toilets and cooking gas, infant mortality and household electrification have all shown extraordinary improvement over the past decade. A decade ago, 40% of households were without electricity; today the share has shrunk to less than 3%. Development is improving the lives of more than just the few at the top in India.
The third tailwind is China, which has provided the spark. The reversion of China’s growth rate to the economic mean has prompted both capital and attention to shift farther afield.
Over the last four years, net foreign direct investment as a share of GDP has been three times higher in India than in China. Fifteen years ago, flows into China were sometimes four times larger than into India. Expats and international expertise typically follow foreign direct investment.
Also over the last four years — a hostile period for capital flows into emerging markets — net portfolio flows into India have been positive, while China has experienced its largest outflows in modern times.
The evidence seems clear, yet doubters continue to question whether India can keep outperforming. Perhaps some expect India to disappoint in the future because they have been disappointed in the past. There is, indeed, a legacy of disappointed expectations.
But clarifying the disappointment is important. India’s historical challenge has been not so much about growing quickly as about sustaining growth. Between 2004 and 2010, for example, India’s GDP growth averaged 7.2%.
One issue is that India has a reputation for chronic underinvestment, but that is yesterday’s story. Capital investment is now above 30% of GDP, higher than that of Taiwan and on par with South Korea.
India is the only Asian economy with an investment-to-GDP ratio that is higher than it was before the pandemic. Its import dependence has also declined, due to stronger remittances and the rise of global capability centers, which build upon India’s previous success in business process outsourcing. Remittance volumes have also grown strongly since 2022.
Rather than the closed-economy reality that previously characterized India, the economy is now more open than China’s was at a similar stage of development. Trade, as a share of India’s GDP, has averaged around 50% over the past decade compared with less than 15% in 1990.
It is true that the average import tariff rate on agricultural goods remains high, but tariffs on manufactured goods were down to around 10% as of 2008 from above 80% two decades before. After a 10-year hiatus, India has recently begun signing trade agreements once again, with pacts finalized with Australia and Mauritius and talks underway with Oman, the U.K. and four other European nations.
Household consumption in India is likely to outperform the rest of the region over the next year or two, with household expectations regarding income, employment and spending firing on all cylinders.
India’s most pressing macroeconomic policy challenge is to ensure that recent steps to reduce the near-20% rate of growth in credit are effective and that the benefits of financial sector reform are not eroded by another boom-bust credit cycle. Tighter regulations around personal loans and credit cards are likely to help, but sectorwide lending growth needs to slow further to bring it into better alignment with deposit growth.
The government’s conservative budget plan for the new fiscal year beginning in April will help. A sharp slowdown in overall spending and a lower-than-expected budget deficit target of 5.1% of GDP will take some steam out of the economy, even as infrastructure spending continues to rise.
Still, to fulfill India’s economic potential, more reforms will be needed. India remains prone to imposing restrictions on trade to address cost-of-living challenges, the agriculture sector is still highly protected and production often subscale, and women’s labor force participation is unenviably low.
But there is still time. India’s past legacies should not distract from opportunities in the present.
Dear Client
It is amiss of me to have waited so long to author a client letter – my last one being in December. In truth, after a year of bad news, I have been waiting for a sustained trend that would allow me to deliver a more positive report. I believe such a time has arrived. Despite knowing that the disruptive events of 2022 events would pass, and markets eventually recover, keeping this perspective is a challenge when in the middle of the storm. Whilst the rumblings of inclement weather persist, I believe it is moving away rather than towards.
The core reason for the drop in markets was the rise in interest rates. The underlying cause of this was the rise of inflation caused by the shortage in supply of essential commodities as a result of the invasion of Ukraine by Russia, as well as some delayed effects of Covid lockdowns. When interest rates rise, it causes a drop in the value of assets/investments. An investment is the purchase of expected future cash flows (dividends). If you expect to receive $100 in a year’s time and current interest rates are 1%, then the present value (price) is $99. If the interest rate rises to 5%, then the present value is $96 – a drop in value of 3%. If you extend the calculation to 10 years, then the value drops from $95 to $61 – a much larger 32% decline. As equities are long term investments, with cash flows discounted for many years ahead, interest rate increases have a profound effect. Some shares are more sensitive than others, e.g. many technology companies are expected to pay little to no dividends in the near term (as most of the cash is used to develop new innovations), and therefore dividend expectations are weighted to the long term, making them more sensitive to interest rate movements. This in large part explains why their values have come down so much more. It is worth noting that bonds (considered a safer haven) are valued in the same way, and therefore also succumb to a rise in interest rates.
Whilst markets can be regarded as efficient (they quickly adjust to changed circumstances), they tend to also be very emotional in the short term. It is inevitable that interest rates will eventually settle and start declining, but the market seemed to assume the high rates are here for ever. News previously regarded as good is now considered bad. Where markets would normally welcome growth in the job market and wages, it now views this as an indication that consumer demand is too strong and will force central banks to keep interest rates high. Whilst commodity prices can still be regarded as high, they are generally quite a bit off their peaks reached last year. Also, from a pure mathematical point of view, even if prices remained at their peaks, year on year inflation would decline because this year’s price compared to last year would show 0% growth, i.e. 0% inflation. In fact, because of the high base and somewhat lower commodity prices, it is possible for inflation to turn negative, i.e. deflation compared to last year. From the start of this year, there has been the realisation that inflation has for the most part peaked and would decline (as it now is), and with it the prospect of interest rates also declining. However, the skittish day traders are nervous of a repeat of last year’s rout, causing much volatility. For the long-term investor, keep to your course, as markets are recovering and I believe still have much upside in them.
USA, Germany and Japan are up between 15% and 17% in US Dollars for the first half of 2023, and Tech shares almost 40%. These markets are only between 5% and 8% off their 2021 highs, or 12% in the case of Japan. These movements are in anticipation of lower interest rates, so I believe will jump up considerably more when rates do actually start their decline.
There are nuances to the above theme in other markets; such as India which is up by a lower 7.5%, but then didn’t drop as much as others; the UK up 6%, which is struggling a bit more with high inflation; and China which has remained flat, grappling with the after effects of harsh Covid lockdown policies, political interventions in companies seen as monopolistic, and an all too close relationship with Russia and antagonism with the west. As for South Africa, our list of problems is well known, manifesting in a negative US Dollar return of 6% for the half year.
As I have for many years, I continue to favour the USA, with a weighting towards technology counters. My previous enthusiasm for China has waned and I advised early last year to lighten exposure, but it is impossible to totally avoid given its global influence. For me India is still one to hold for its massive potential, which is gradually being realised, as too numerous other Asian countries. Despite South Africa also having potential, this will not be realised under such poor macro policies and is therefore not to my mind worth considering until fundamental policy changes are made.
I have since 2008 not considered the bond market a viable investment, due to the low interest rate environment. However, with current higher rates I believe it now a good prospect for those seeking somewhat less volatility, decent interest income, and the potential bonus of capital gains when interest rates decline. Once again, I favour offshore over SA.
For those considering moving funds out of SA, I think the good upside potential from the continued market recovery will outweigh the weakened rate at which you would exchange the Rand. Should you wish to add to your portfolio, or switch if you want to adopt my line of thinking, then please let me know.
Regards
INTERNATIONAL RELATIONS
Dangerous liaisons: SA’s Russian roulette jeopardises trade agreements with US and other Western nations
08 Apr 2023
The International Criminal Court’s (ICC’s) arrest warrant for Russian President Vladimir Putin puts at stake South Africa’s privileged exports to America. The ICC problem encapsulates South Africa’s growing dilemma, as its ever-warmer embrace of Russia and China, in particular, increasingly irritates its Western economic partners.
The arrest warrant issued by the International Criminal Court for Russian President Vladimir Putin has further complicated South Africa’s already tense relations with the US and could jeopardise its privileged exports to America.
The ICC problem encapsulates South Africa’s growing dilemma, as its ever-warmer embrace of Russia and China, in particular, increasingly irritates its Western economic partners.
They are finding it difficult to understand why the ANC government is drifting ever further away from its proclaimed non-aligned position and closer to the West’s rivals – even though South Africa’s economic ties with the West are so much more valuable.
South Africa exported about 178 times more to the EU, the US and the UK in 2022 than to Russia and nearly four times more than it exported to China.
In 2022, South Africa exported goods worth more than R53-billion to the US under the African Growth and Opportunity Act (Agoa), which gives SA duty- and quota-free access to the US market.
This represented an increase of about 50% over 2021. The 2022 figure represented about 20% of total SA exports to the US of R257-billion and largely contributed to SA recording a trade surplus with the US of about R141-billion.
But South Africa’s refusal to condemn Russia’s invasion of Ukraine last year – and its growing ties with Moscow, Beijing and other Western enemies such as Iran – could jeopardise its Agoa privileges.
South Africa is due to host this year’s Agoa summit. It was originally scheduled to be held in September – just days after the country is to host the annual summit of the BRICS Forum – comprising Brazil, Russia, India, China and South Africa.
International Relations and Cooperation Minister Naledi Pandor recently confirmed that Putin had been invited to attend the BRICS summit, along with the leaders of the other BRICS nations.
But last month Putin was indicted by the ICC, which issued a warrant for his arrest for complicity in the alleged abduction of Ukrainian children and deportation of them to Russia.
If South Africa welcomes a fugitive from the ICC in August, many, perhaps all, of the US Senators and Representatives due to attend the Agoa summit in September would probably not attend.
And they are the ones who have to decide whether South Africa continues to be a beneficiary of Agoa – or even if the whole programme is renewed when it expires in 2025.
In February, the chairperson of the US House of Representatives Africa Subcommittee and other Republicans tabled a resolution calling on the Biden administration to review US relations with South Africa, including its Agoa benefits, because of its growing ties with Russia and China, and diminishing links with the US.
House Resolution 145 cited a joint naval exercise South Africa conducted with Russia and China off the KwaZulu-Natal coast in February and also expressed concerns about China allegedly being allowed to establish “police stations” in South Africa to monitor Chinese dissidents.
Western officials have also noted with concern the recent arrival of the massive Chinese satellite- and missile-tracking ship Yuan Wang 5 in Durban and of the Iranian Navy’s large forward base ship Makran and corvette Dena in Cape Town. Both visits are being seen as signs of increasing military engagement with autocratic rivals of the West.
“You say you’re non-aligned but over the last few months, you haven’t been looking non-aligned,” said one Western diplomat. He also cited Pandor’s recent insistence that “we have made it clear that Russia is a friend” and that the two would not become sudden enemies “on the demand of others”. This week’s visit of an ANC delegation – including deputy minister of international relations Alvin Botes – to Moscow to visit Putin’s United Russia Party is also being seen as evidence of an increasingly “aligned” position by SA.
The US and SA are apparently scrambling to get around the problem of the proximity of the BRICS and Agoa summits, possibly by rescheduling or moving the Agoa summit elsewhere.
Pretoria is also trying to figure out how to manage the Putin dilemma. As a member of the ICC, it is legally obliged to arrest him if he sets foot in South Africa. The government is seeking legal advice on how to invite him yet not have to arrest him.
But most legal experts believe Pretoria will have to ask him not to visit South Africa for the BRICS summit.
Some economic commentators are perplexed that Pretoria could be jeopardising its valuable economic ties with the US and other Western states in favour of better ties with states such as Russia, China and Iran, with which it does relatively little commerce.
“Russia has never broken one percent of our trade in the last 10 years,” says Donald MacKay, head of XA Global Trade Advisors.
“So, what do we wish to gain by taking the stance that we are taking on Russia?”
MacKay sees exports as the touchstone of trade relations. He notes that in 2022, nearly 22% of SA’s exports went to the EU, almost 9% to the US and and just over 5% to the UK – a total of 35.6% to the three main Western markets.
MacKay also notes that a total of 65% of South African exports in 2021 had gone to the 144 nations that voted in the UN General Assembly to condemn Russia for its invasion of Ukraine. Just 26% of SA’s exports went to the 31 countries that, like SA, abstained from the vote. And only 0.31% of exports went to the seven states that voted against condemnation of Russia.
MacKay notes Daily Maverick had recently reported that Pandor had said South Africa’s membership of BRICS was helping it to expand trade and investment in the Global South. She said total South African trade with BRICS had increased from R487-billion in 2017 to R702-billion in 2021.
But MacKay said SA’s trade with the major Western nations had been much more beneficial, as a considerably greater share of its exports to these markets had been of value-added, manufactured goods which create more jobs.
The EU says that the largest share – 22% – of SA exports to the union in 2021 was in motor vehicles. And machinery, vehicles, electronics, other manufactured goods, clothing and chemicals totalled some 31% of SA exports to the US in 2021, whereas a much larger percentage of exports to the BRICS countries has been in raw materials – in the case of China especially.
SA’s exports to Russia were a minuscule 0.23% of all exports in 2021, MacKay says.
Some analysts fear that SA could lose its Agoa benefits even sooner, but MacKay suspects SA could lose them in 2025 when the US Congress reviews Agoa.
If that happens, the greatest impact would be on the auto industry, he said. “The automotive industry cannot simply replace lost US exports with exports elsewhere.”
MacKay notes that, although many EU countries were also irked by South Africa’s drift further into the Russia/China camp, the reciprocal free trade agreement with the union would give SA some protection, “as they can’t simply withdraw benefits” as the US can.
“But we may find it takes very long for the newly negotiated improved access to things like wine to materialise,” he said. And he also thought the EU could be less cooperative in dealing with other trade issues, such as, the Carbon Border Adjustment Mechanism in Europe to tax the trade in carbon-intensive goods.
One US analyst of America’s relations with SA notes that although House Resolution 145 is a directive with few teeth, it sends a message to the administration and to SA that the Congress is watching them.
He also notes there is growing discomfort with SA’s position as articulated by Pandor last week – when she insisted that Russia would remain SA’s friend regardless of criticism from the West – and also about former president Thabo Mbeki’s assertion that the world would be better off with a diversified financial system rather than an over-reliance on the US dollar – a reliance he suggested the conflict in Ukraine had aggravated.
“Removal from Agoa is a possibility,” he believes, especially because the Republicans control the House of Representatives. But he also believes that the Democratic Senate and the Democratic Biden administration might put the brakes on that.
“I doubt it will go that far, as we have other matters to engage on with SA, including the $700-million a year the US spends on healthcare in South Africa.”
Veteran Washington-based South Africa watcher Tony Carroll, the director of Acorus Capital and adjunct professor in the African Studies programme at Johns Hopkins University, agrees, saying: “I would not sound the alarm bells now, but I do detect a faint smell of smoke.” DM168
Trade facts
Exports from SA in 2022
To the EU: 21.7%
To the US: 8.8%
To the UK: 5.1%
(a total of 35.6% to those three Western regions)
To China: 9.4%
To Russia: just 0.23%
(According to EU Trade)
Motor vehicles account for the highest share of SA’s exports to the EU, at 22%. In 2022, SA recorded a trade surplus with the EU of about R36-billion.
(Source: EU Embassy, Pretoria)
Agoa
In 2022, SA exports to the US under Agoa totalled more than R53-billion, an increase from just over R37-billion in 2021. The 2022 figure represented about 20% of total SA exports to the US of R257-billion and largely contributed to SA recording a trade surplus of R141-billion with the US in 2022.
(Source: US Embassy, Pretoria)
Investments
Origin of FDI stock in SA in 2020
EU: 40.3%
UK: 30.5%
US: 6.5%
China: 4.9%
Africa: 4.5%
Russia: 1.37%
(Source: Russian embassy for the Russian figure; South African Reserve Bank March 2022 Bulletin for the rest)
In the recent United Nations vote on whether Russia should withdraw from Ukraine, 144 countries voted for it to withdraw (31 were African – 22% of the votes, but 66% of the African vote). A total of 31 abstained, including South Africa and 15 other African states, and seven voted for Russia to remain (the usual reprobates, such as North Korea, Eritrea and, of course, Russia). The rest didn’t vote. A total of 65% of SA exports go to the countries that voted for Russia to leave Ukraine, 26% to the abstentions and 0.31% to those who voted in support of Russia.
(Source: XA Global Trade Advisors)
Why equities commentary often fails investors
Stock market analysis is too often couched in jargon and clichés that hinder rather than help the ordinary investor
06 OCTOBER 2022
GRAHAM BARR AND BRIAN KANTOR
The management of private savings is central to ensuring the stability of society and the improvement in living standards.
These savings, made by individuals, are generally accumulated through collective schemes such as pension and retirement funds. Those entrusted with the management of these savings have a critically responsible role. They are accorded high status and are well remunerated in rough proportion to the value of the assets they manage. By far the largest proportion of private savings entrusted to these wealth managers is invested in stock markets, both domestically and internationally.
So the performance of the stock market is of considerable interest to a wide sector of the public. Yet the financial jargon used to describe the day-to-day performance of the stock market is in many cases opaque, somewhat illogical and sometimes even misleading.
Outlined below are some common explanations that seem designed to exclude the wider public from the market’s inner sanctum.
Share price movements and what they reveal
Share prices are the perceived present value of the future rewards, mainly dividends, expected to flow from ownership of a company’s shares. These rewards depend on the company’s profits or earnings. Investors and professional traders constantly assess the effect on earnings of information arriving on the newswires.
These packets of almost continuously flowing information fall into two categories: those that confirm events that were generally expected, and those that come as a surprise and are often described as a “shock”.
The greater the divergence of opinion about what the future may bring, the more active trade in a share is likely to be, and the more share prices may change from day to day
Information that is unexpected and therefore genuinely newsworthy will change perceptions of the economic future and the value of the companies that largely make up a modern economy. Market participants, with every incentive to do so, will try to work out how such news will affect listed companies and their share prices. The information might not refer directly to a particular firm but can affect perceptions of the performance of the wider economy.
Therefore, any unexpected, genuine news can change the perception of the value of a company in the eyes of potential buyers and sellers of its shares. Trading of a share takes place at an agreed price between a buyer — who must think the price will rise on the basis of current and past information — and a seller, who believes the opposite. Thus trading only takes place when there is a divergence of opinion between buyer and seller.
What’s more, on any one day only a small fraction of shares in circulation will ever change hands; in fact, most shareholders do not trade their shares at all — they simply buy and hold.
The greater the divergence of opinion about what the future may bring, the more active trade in a share is likely to be, and the more share prices may change from day to day or even minute to minute. Heightened uncertainty will be reflected in temporarily volatile markets. The price of an individual share, or some index of a group of shares, can exhibit volatility when the news is truly surprising or shocking and market participants are taking some time to assess its implications.
In the light of the above, let’s look at the clichés offered by commentators that do little justice to this complicated reality.
Commentator: The stock market fell sharply today as sellers flooded the market
In fact, the only prices that are recorded are those of actual trades. So precisely as much share value is bought as is sold. Of course, negative news might indeed have flooded the market, causing a general downward assessment of most stock prices and recorded (last-traded) prices may fall pretty much across the board. But the maxim holds. Each buyer expects the share bought to go up. Each seller expects the share price to fall and as many shares are bought as are sold.
Commentator: The stock market fell steadily today as traders took profits after yesterday’s sharp rise
If a trader bought yesterday, thinking the price would go up according to the available information at the time, they might sell today on the basis of their expectation being realised in some part. But the person they sell to also presumably thinks that, according to today’s information and their analysis, the current price is attractive and will rise.
One will be right and one will be wrong, and the factor that makes one a winner and the other a loser is generally unpredictable. But the notion of “taking profits” tends to imply that in the short run there is a split between clever people in the market who make money and dumb people in the market who lose money. The clever group (described by the commentator as “traders”) assessed that prices were too high relative to value, and therefore took profits by selling to the dumb group, who have failed to appreciate this and now sit with a (book) loss.
Commentator: We are clearly in the middle of a bull run. Almost all shares are trending upwards, and it looks as if one can’t go wrong putting money into this market.
Or, a variation on this theme:
The trend is your friend. The share price of X has moved up 50% in the past two months and I think another 50% rise is in sight.
One of the most extraordinary fictions is that a share price exhibits animal-like behaviour. That is, if you look at the performance of a stock you might be tempted to conclude that it follows a predictable path in the same way that an animal would. So if a stock price has moved in one direction and established, say, an upward trend, then it is likely to continue to do so; thus mimicking the instincts of an animal, which is more likely to continue moving in the same direction than suddenly change course.
The identification of patterns of future movements finds its nadir in the dark art known as technical analysis. In this world, share prices are assumed to move along predictable future paths when the past prices have formed some pattern. For example, in the jargon of technical analysis, share prices can be expected to break down after they have formed a “triple top” or break out when prices have formed a “flag” formation. It could be regarded as extraordinary that such analysis has gained currency, invoking the notion that the movement of a share price is akin to a living creature that habitually walks along a designated path.
Of course, once such analysis is accepted by market participants as actually indicating future behaviour, then market players will act accordingly and the share price prediction can become self-fulfilling. In other words, if technical analysts see a “triple top”, knowing that in their world this heralds a break down they may sell the share — which will lead to a price plunge exactly as they had predicted.
It must be made clear that though some stock market analysis may push the limits of logic, this does not detract from the fact that the stock market is a central investment vehicle for society.
It allows investors to plug into the extraordinary growth of modern economies, which are supported and driven by the explosive rise in technological innovation. Stock market analysts and portfolio managers have a pivotal role to play in ensuring the delivery of these returns to the savers in society who wish to secure their future.
The colourful, but often obtuse, commentary made by pundits should not detract from this fact.
Barr is emeritus professor of statistical sciences at the University of Cape Town (UCT); Kantor chairs the Investec Wealth & Investment Research Institute and is emeritus professor of economics at UCT