Scaling the wall of worry

In a post two months ago I featured the chart above, noting that

Falling oil prices and Chinese growth concerns have come together in perfect-storm fashion to send global financial markets into crisis mode. As I mentioned last week, what's going on seems to have more to do with fears than with any deterioration of the economic fundamentals. It's one more in a series of "walls of worry" that the market struggles to overcome—only this time it's an oil-slick wall of worry which makes the climbing more difficult.

I've noted repeatedly since then that very low swap spreads sent a strong signal that the economic and financial fundamentals were on solid ground, despite the fears that weakness in China and in the oil patch would spread to other areas. Healthy financial markets and abundant liquidity, I argued, would allow the market to digest the problems in China and in the oil patch. Indeed, that appears to be happening.

Oil prices appear to have stabilized around $45/barrel, after dipping as low $38 in late August, and the dollar appears to have stabilized as well, trading today right around its average price over the past eight months. 

Similarly, the Chinese yuan appears to have stabilized after its mini-devaluation in early August, and the Chinese stock market also appears to have stabilized after losing one-fourth of its value in late August.

The world is not in a deflationary free-fall. As the chart above shows, the decline in commodity prices in recent years has been exaggerated by the dollar's strength (the dollar was near its all-time lows in early 2011, and is now trading around its long-term average). Measured in dollars, the CRB Raw Industrials index has fallen about 32% from its 2011 high, but measured in euros, it has fallen only 17%. Commodity prices, whether measured in euros or dollars, are still significantly higher today than they were in the early 2000s.

When the market worries that the world is on the brink of collapse, all it takes for equity prices to rally is a failure to collapse. Put another way, avoiding recession is all that matters these days.