Wyss Man

Interview '” Dr. David Wyss and Michael Pascoe
August 29, 2005

MP: Can the commodities boom last much longer?

DW: I think it’s going to go on for a while. The fact is you’re looking at enormous world demand that’s coming in place. China is still growing, 9½ percent a year. India’s right behind it growing 6, 6½ percent a year and that’s a huge increase in demand for world commodities. The supply is just not going up as fast.

MP: Can supply respond as fast, given the rationalisation of the industry?

DW: Well I think supply will start going up because there is place for a lot of these commodities. There’s a lot of replacement, a lot of substitution that companies can do but it takes a while to do that. So my guess is 3 to 5 years of continued rising commodity prices.

MP: This is great for commodity exporters but given that the demand is coming mainly from China, for the rest of the world, commodity prices, will that tip the balance and retard growth?

DW: Well it could but frankly it’s not going to happen from commodity prices. Energy is a bigger problem but non-energy commodities are such a small share of the GDP of most advanced countries that even if they go up 20%, 30%, 100% it’s not that big a deal.

MP: Including energy as a commodity?

DW: Energy is a unique problem for two reasons. Number one obviously we use more of it and number two it’s harder to find substitutes so energy prices do have the potential of tipping the world into recession as they have at least 3 times I the past but I think you’ve got to go higher to do it. It’s not going to happen at $67 a barrel. I don’t think it’s going to happen at $100 a barrel.

MP: Are you expecting $100 a barrel?

DW: I’m not expecting $100 a barrel but I’m certainly not ruling anything out at this point. If I’ve proven one thing over the last two years it’s that I’m absolutely terrible at forecasting oil prices.

MP: What does threaten us then? Given that we’ve got this enormous international growth driver coming out of China, what could tip the balance?

DW: I think there are two issues. Number one is energy prices. Obviously at some point we can slow things down, can certainly slow things already and they could push us into recession if they go up high enough, but I think high enough is probably $125 to $150. The other thing obviously that worries us are the tremendous imbalances in trade throughout the world. The big US trade deficit, the big surpluses in Europe and Japan, these have to be brought together. We feel the US trade deficit is unsustainable. Problem is we’ve been saying that for 35 years.

MP: Alan Greenspan’s determined to keep raising interest rates. What sign does he need that enough’s enough. What is he looking for?

DW: The point is he doesn’t have his foot on the brake. What he’s really trying to do is get his foot off the accelerator and he wants to get back to neutral on the Federal funds rate. They don’t know quite where neutral is but in most of the analysis say somewhere in the 4 to 4½ percent range is probably about where they want to be. He’s anxious to do that before he leaves office. December will probably be his last [TFLC] meeting. If we have another quarter point high for each meeting that will get us to 4¼ percent. He would like to make sure that his successor can come into office and not have to do anything. And he would like to make sure that if his successor does have to do anything he’s got room to move in both directions. So I think he really wants to finish the job before he leaves.

MP: US equities are looking sustainable.

DW: The price earnings ratio in the US market looking at operating earnings is about 17. That’s a little on the high side of average but frankly given how low bond yields are it looks if anything a little bit undervalued. I don’t think bond yields are going to stay this low but it looks reasonable. It’s following the path of earnings. Earnings are doing great. We now have 13 consecutive quarters of double digit growth in corporate earnings. Corporate profits in the US as in Australia are at record highs relative to GDP. So it’s no wonder the stock market is doing good. It can’t continue to go up this fast but it’s not [like saying] that this is over-valued the way it was back in 2000.

MP: Well it’s a good segue to the bond market.

DW: But the problem there is I think bond markets are becoming increasingly global. The Federal Reserve’s raised interest rates now 2½ percentage points. Bond yields are trading lower than they were when the Feds started to raise rates. So what’s happening is that the world is convinced the dollar is a safe investment. The 4.2 percent you can get on US Treasury’s doesn’t sound very good to us but relative to the roughly 3.2 percent you can get in Germany or the 1.2 percent in Japan it looks awfully attractive. Money is flowing in, that’s holding US bond yields down.

MP: That’s the great unknown isn’t it. How long that money keeps flowing in?

DW: We’ve been surprised that it keeps flowing in like this. The US was running a trade deficit of $800 billion. We would always said that would cause the currency to collapse, it would cause bond yields to go up. Instead we’re worried that bond yields are too low and the dollar is too strong. I think the big problem is the lack of growth in the other industrial countries. There’s just no return available in Europe, in Japan. The US looks like the only large liquid market which has that combination of decent returns and safety and that’s causing this unhealthy accumulation.

MP: Well from that, what do you end up doing with your money?

DW: What do you do with your money? I think the first thing you do is don’t expect the kind of returns you got in the 80s and 90s. Diminished expectations are in order here. the other thing now I think in the long run stocks are still going to be the winners and the correct answer for anybody is hold as diversified a portfolio in stocks. Try to be as diversified as possible and try to avoid the fear factor.

MP: One of the major arguments here is between our proportionately very large banking sector and the commodities.

DW: Well if you look at the market in Australia it’s dominated by two things. Financials and commodities. And that’s way out of line with what it is in any other country. I think that’s just a fact of life in Australia though. That’s really the economy. The economy is very based on commodities and on finance with not a lot of room for big industrial companies. I think to my mind that’s a reason for diversification, why you can’t rely on just Australian stocks in your portfolio.