There are tentative signs that U.S. monetary constipation is easing. Even though the Federal Reserve has sharply slowed its rate of balance sheet expansion, the money multiplier has stabilized (Charts 1 & 2). M2 has rebounded, a positive sign, as has the improvement in the rate of change of business demand for credit (Charts 3 & 4). The latter is measured as the rate of change of bank loans to businesses plus commercial paper. It has rebounded from -35% per annum to zero.
Investment Conclusions
The implication of the tentative improvement in money and credit is that investors should avoid getting overly bearish as a result of the economic indicators. Forecasting stock prices based on a forecast of the economy has almost always led to disappointment. Rather, the stock market should be seen generally as a good predictor of the economy—although not always. It is still a dangerous and fragile world out there, vulnerable to shocks. But the positives from the world of money and credit, the continuation of near-zero interest rates and the relatively strong performance of the corporate sector in terms of profits, productivity and liquidity should not be ignored.
Our investment thesis over the last year and a half is that a fragile economy should not push investors away entirely from risk assets. However, high levels of risk and uncertainty argue for continued focus on wealth preservation, an important component of which is sound diversification.
