A tale of two outlooks – part 2
on April 20, 2008

JanusApr.bmpIn an early blog last July, I marvelled at the contrast between the then upbeat nature of financial markets, and the gloom apparent elsewhere. I suggested that these two views of life couldn’t ‘continue to exist alongside each other for ever’, and suggested that whatever scenario came out on top would ‘have major implications for the chemical industry’. I added that I personally thought the Access deal for Lyondell (announced that week), would mark a market top, and forecast ‘storms ahead’.


Since then, there have been storms indeed. But we now seem to have arrived at another period of disconnect. It seems that the more banks disclose bad debts, the happier Western investors become. US markets are up 10% since the March lows, whilst European markets have also rallied. As the Wall Street Journal has commented, ‘if stocks keep acting like this, investors may start asking “what recession?”
However, before we break out the champagne, one notes that Asian investors seem less impressed. The Shanghai market is now down 49% since October, India is down 20% since January, Japan down 25% since July, and Korea is down 14% since November. At the same time, the price of rice (the staple food of billions in the region) has been soaring. As Sri Lanka’s central bank governor said this week, ‘food is something without which we cannot live’. The potential impact of the rice price having more than doubled to reach a record $1000/tonne is enormous.
The disconnect between Western financial markets and elsewhere therefore seems to be based on the difference between sentiment and fundamentals. Western investors want to believe that the credit crunch is now nearly over. Several major bank CEO’s, including the heads of Lehman, Goldman Sachs and Morgan Stanley have now claimed, as Richard Fuld of Lehman said, that ‘the worst is behind us’. However, Jamie Dimon of JP Morgan was more cautious, commenting that ‘real estate is getting worse’.
And this is a key issue for the chemical industry. Seasonally, Q2 should be very strong, especially as Easter came early this year. But in the US, housing starts are at the lowest level for 17 years. Whilst in the UK, lenders now say the credit crunch could cut mortgage lending by 50% this year. Housing market problems have also spread from the West to Asia – as I noted this week, China’s property markets are now seeing ‘a serious downturn’.
Equally, energy prices are making new highs, with crude closing at a new record of $116.95/bbl, and natural gas at $10.56 MMBTU. It is difficult to believe that these increases can be fully passed on to consumers. At the same time, actual lending rates (as distinct from the overnight rates controlled by central bankers), continue to move higher. The WSJ comments that this ‘sharp and unexpected rise’ could ‘add billions to the interest bills of homeowners, companies and other borrowers around the world.’
In the past, credit crunches have tended to impact the ‘real economy’ with a 6 – 9 month lag. So it is quite ominous that the FT reported this week ‘concern is now mounting about the health of hundreds – if not thousands – of (US auto) component and service suppliers squeezed between falling orders from their carmaker customers, high raw material prices and tightening credit conditions’.
We have seen some evidence of this in Q1, as I noted with the bankruptcy of Plastech and others, but nothing on the scale now being foreshadowed by the FT. If this were to happen, the current financial crisis would enter a new phase, as it would then be directly impacting the ‘real economy’. Banks would also find themselves facing new losses, this time from their commercial lending
Hopefully, this disaster will not occur. But I still find it hard to share the optimism of western financial markets. From a chemical industry outlook, there seems little to cheer. Housing and auto markets are still in trouble, feedstock costs are rising, and it seems likely that most individuals/companies face higher interest costs. I fear there are probably even more major storms ahead.

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