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Slipping up on oil

The market is in danger of becoming almost as much of a washout as last week’s bank holiday. The week before the bank holiday weekend saw equity markets worldwide suffer their worst fall for a quarter and the more shares had recovered, the more ground they gave back.

In America, the S&P Financials index, for example, had recovered around a quarter from its March low point. Half of that was returned during that troublesome week. Even the broadly based S&P 500 gave up a third of its 15 per cent recovery.

The catalyst for the evaporation of the feel-good factor that had been building was rising concerns over inflationary trends. Not just here at home, either.

Perhaps the most worrying development has been the way that higher prices are impinging on Asian economies. China, which has additional problems to face, looks as though it is now adding inflation to its range of exports. But it is among the smaller countries that the real risks exist.

Take Vietnam. The battle with inflation that is taking place is leading to capital outflows and a weakening currency. In all these Far East countries, dearer food is feeding into a rising cost of living more directly than in the West but it is dearer oil that is causing the biggest problems.

Oil has all but doubled in the past 12 months. This has provoked comment that speculation in essential commodities, such as those related to agriculture, energy and fuel, should be curbed. In a global market this is not only virtually impossible to achieve, it is almost certainly counter-productive.

Shares have bounced back quite convincingly from the March lows across Asia, even allowing for more difficult recent conditions. A couple of weeks ago, the MSCI Asia ex Japan index was 15 per cent off the recent bottom. Vietnam shares have fallen by around 30 per cent over the same period.

It shows what can befall a country when inflation takes a grip and a previously benign environment crumbles before your very eyes.

Inflation across the region is becoming a serious issue. In India, it is forecast to top 9 per cent before too long. A year ago, it stood at around 5.6 per cent.

One consequence of this will be more government interference across the board. The big danger, though, is that higher fuel and energy costs restrict economic growth and accelerate the global slowdown many see as inevitable. Social unrest remains one of the principal concerns of the Chinese authorities.

Over here, stagflation is the fear. In the aftermath of the oil shock of the 1970s, we saw the effects of a rising cost of living taking place against a background of sluggish economic activity. Shares suffered then, even if they did come back to reflect the influence that inflation was having on the value of underlying assets. It may not prove as dramatic as last time but we should not ignore the lessons.

Brian Tora (brian.tora@centaur.co.uk) is principal of the Tora Partnership

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