Hamish McRae: Better sooner than later for share and bond plunge

Indeed the only two things I can see that might seriously damage growth would be some global catastrophe that doesn’t bear thinking about, or the asset boom getting out of control and the price of just about everything suddenly crashing.

So we come back to asset prices. All booms come to an end. Falls in share prices matter less than falls in bond prices because equities are known to be volatile whereas bonds are supposed to be less risky. Actually the reality is the reverse. Equities at present levels may be expensive but are not ridiculously so, whereas long bond yields are absurdly low. Yields may be off the bottom but are still the lowest ever in human history. We are still in the early stages of what will probably turn out to be a 30-year bear market in bonds.

It follows that another Black Monday on Wall Street would be less damaging in its impact on the real economy than a wave of bond defaults, including perhaps that of a large eurozone country. But neither would be a bundle of fun.

It could turn out that the break in asset prices starts, not in conventional classes such as equities, bonds or property, but rather in the new ones, notably the crypto-currencies. For the moment these are probably too small to be able to destabilise conventional asset markets, but there may be links in the global monetary system that no one really understands.

Or it may be that those of us who follow the US and Europe closely are looking at the wrong bit of the globe. Maybe the discontinuity comes from China or elsewhere in the emerging world.

What I think we can say is that the longer the bull market continues, the greater the danger of it ending not with a fizzle but with a bang. Intuitively, however, the end of the asset boom feels some way off. There is a lot of momentum behind it, and it may be that the US tax cuts will feed the animal spirits — Keynes’ expression — both of the American economy and of the investment community.

That thought leads to the issue overhanging everything: when does the global economic cycle turn down? We know there is a cycle, but we also know that all cycles are different both in their amplitude and their duration.

Because the last downturn was so vicious, common sense would suggest that the subsequent growth phase should be relatively long. For many countries it already has been. The US now is in the second longest period of continuous expansion since the Second World War, though the eurozone did have a double dip and Japan struggled to gain traction.

Some have argued that this growth phase could be exceptionally long, up to 15 years rather than the usual seven to 10 years. But that does not take into account that growth has been artificially stimulated by the lowest interest rates ever, and by quantitative easing, policies that have resulted in the asset boom.

So though I cannot see a recession this year, I can see a break in asset prices, and the sooner that break comes the better, for the less damage there will be to the world economy.