Share Investment: Prof Chan Yan Chong’s Column (04 Jul 2008)

Prof Chan Yan Chong’s Column

When the subprime mortgage crisis broke out last year in the US, the Federal Reserve took bold steps in reducing Fed funds rate in order to bolster the economy. The results of the rate cut, however, remain muted amid unresolved problems within the US economy.

The rate cuts have led to higher inflation, which is not helped by rapidly rising fuel prices. There are also rumors of Israel wanting to attack Iran nuclear facilities, adding to more fear and uncertainties. Pessimism is now at a peak and the outlook has become cloudy.

When will we see the daylight?

The threat of another oil crisis looms and this has derailed the world’s globalization effort. It is important to achieve low transportation cost so that goods can move around freely and cheaply around the globe. Import tariffs must come down and taxation must be reduced in order for consumers to be able to enjoy goods at a lower price.

Globalization started in the 1980s when oil prices were low, so much so that a barrel of oil cost just US$10. The low transportation cost gave birth to supply chain management, meaning that a car manufacturer can procure parts from all over the world. Other goods such as toys and garments, too, could contain materials sourced from various countries.

Now that oil price is high and transportation cost is on the rise, carriers plying the air and sea routes have no choice but to impose fuel surcharges. This has led to a rethinking of the principle of supply chain management, which has led to Procter & Gamble setting up more manufacturing bases and reducing the need to transport raw materials. Will China be hit by this move?

From this point of view, companies such as the airlines and the container carriers will definitely be hit. Singapore Airlines and Neptune Orient Lines could suffer as a consequence of this.

High oil prices have led to an unequivocal support for the acceleration of “going green”. The European Union has legislated that Ethanol be added to refined crude oil, but this move will lead to higher commodity prices for corn, soybean and other agricultural products. Pork prices have been rising and consumers have switched to other meats such as chicken and beef. Now prices of all other meats are also rising as a result of rising demand.

What do we do now that prices of everything under the sun are rising? We have no choice but to raise interest rates so that it would suppress demand. Once demand falters, the economy will slow. And to prepare for this expected slowdown, Starbucks has decided to close 800 outlets in the US.

It looks like the bear market still has a long way to go before ending. I mentioned on previous occasions that the worst could take more than a year to appear before Fed funds rate rise. The global stock market is now like an overheated kitchen. Can you bear the heat?