By MICHAEL J. CASEY at The Wall Street Journal
For now, fund managers are duly piling in, following the logic of a world in which hyper-easy monetary conditions have pushed bond yields sharply lower, making stocks comparatively attractive.
So far this year, $36 billion has flowed into European equity funds and $7.6 billion into Japanese stock funds, with $15 billion going to “international” developed-market equity funds, said fund tracker EPFR. The three categories together more than offset net outflows from U.S. and emerging-market equities, which had previously enjoyed strong gains.
“In Europe and Japan, equities are the only game in town,” says Scott Minerd, global chief investment officer at Guggenheim Investments, which has $220 billion under management. German stocks provide a dividend yield, reflecting the annual payout as a share of the current stock price, of “something in the neighborhood of 3%. Versus German bunds with negative yields, that’s compelling place to be.”
Behind these numbers are the asset-buying programs – also known as quantitative easing, or QE – instituted by the Bank of Japan and European Central Bank.
The BOJ’s purchases of both bonds and stock index-based exchange-traded funds are topping up Japan’s financial system each month with an average 6.7 trillion yen, or $56 billion. And with the Government Pension Investment Fund having amended its mandate to allow equities in its $1.1 trillion portfolio, private money managers looking to deploy that money have been given an unsubtle hint on where to put it.
The result: Tokyo’s Nikkei index is up 10% since Dec. 31 to a 15-year high.
In the eurozone, the ECB’s newly launched €60 billion-per-month program has pushed yields on various government bonds below zero.
This buying spree is helping markets deal with the fact that the Fed is now gingerly preparing to increase interest rates, having last year ended a QE program that was itself instrumental in driving U.S. stocks to record highs.
To be sure, the U.S. central bank’s rate hike intentions have spurred one of the sharpest rallies ever in the dollar, and that’s souring the earnings outlook for U.S.-headquartered multinationals. But the opposite is true for European and Asian companies, for whom much weaker local currencies are delivering a windfall.
For now, the central bank policies appear to be succeeding. Data pointing to mild economic recoveries in both Japan and Europe and a quasi-resolution of Greece’s debt problems with the European Union suggest investors concerned about a downside economic shock can rest at ease.
The catch: The blind, buy-at-all-costs investing approach fostered by QE could be doing lasting damage to the structure of Western, free-market economies.
Big inflows are creating price distortions in markets that could do long-term damage to their role as allocators of capital and fuel destructive economic tensions.
Negative yield numbers for “risk-free” benchmarks in Europe, which are traditionally used as the discount rates for making net-present value calculations, mean “it’s a new era where nobody knows how to value equities,” says Megan Greene, chief economist for John Hancock Asset Management, which has $277 billion under management. “You can only imagine what distortions will crop up.”
Indiscriminate increases in all stocks undermine markets’ capacity to distinguish between winners and losers.
“Classical economics tells us that when you distort the price of capital you end up getting periods of mal-investment which ultimately leads to long-run deteriorations in living standards and growth,” says Guggenheim’s Mr. Minerd.
What’s more, the central-bank efforts stand to heighten economic contradictions that ultimately could threaten the system itself.
Wealth inequality is growing because surging stock prices favor wealthy owners of those assets while deflationary pressures keep wages suppressed. That feeds political tensions and populist ideas – already gaining favor in various EU countries – producing a backlash against free trade and economic integration and making for a less business-friendly environment.
Some people worry that this QE-led market bonanza is setting us up for another stock market bubble, with its painful burst looming on the horizon. Equally important are the challenges it poses for the wider economy.