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market is Asia, and more specifically Japan. The Japanese are the largest single body of luxury goods consumers. Sales in Japan account for an estimated 20% of total sales.

      If it is assumed that Japanese people travelling abroad buy about 40% of the luxury goods sold in Europe then sales - and a similar level of profits - to Japanese consumers worldwide account for a more sizeable 32%-35% share of the total. Moreover, Japanese customers may account for up to 60% of the total market for certain goods and even more for certain markets (Hawaii, Guam, Saipan). While Japan represents the single largest market in Asia, markets in other countries, such as Korea, Taiwan and China, are growing rapidly.

      8. The internet poses challenges to brand management.

      Luxury goods’ distribution is based on service, product scarcity and brand awareness. E-Commerce is based on price rebates, order fulfilment and volumes. For luxury goods companies, therefore, the internet will be a test in terms of increasing brand awareness while refraining from brand dilution.

      Brands characterised by tightly-held distribution are well placed to control the consumer experience and be profitable online in the medium term. In absolute terms, the so-called ‘low touch’ product categories (ready-to-wear, basic accessories, perfumes/cosmetics, wines and spirits) are likely to sell better than ‘high touch’ ones (shoes, high jewellery).

      ‘Stocks that lead the rally to the top in late stages of bull markets aren’t likely to lead the rally off the bottom in late stages of bear markets. Newer, smaller, and faster-growing companies rise to the top.’

      John Rothchild

      Tim Congdon

      Professor Tim Congdon founded Lombard Street Research, the economic research and forecasting consultancy, in 1989, and is currently its Chief Economist.

      He was a member of the Treasury Panel of Independent Forecasters (the so-called ‘wise men’) between 1992 and 1997, which advised the Chancellor of the Exchequer on economic policy.

      Economic drivers of asset prices

      Introduction

      What are the ultimate drivers of asset prices? Perhaps no question in investment management is more basic or more disputed. But some rules are reliable, as they depend ultimately only on economic common sense. Five are proposed below, although they are best understood as broadly correct generalisations which need, in particular circumstances, to be interpreted with care. The first rule cannot really be disputed and the next four follow, more or less, as a matter of logic.

      1. Nations cannot make themselves rich by printing more money.

      This is simply an elaboration of the obvious statement, “there is no such thing as a free lunch”. (Investment bank clients may sometimes think their lunches are free, but they are kidding themselves.) A crucial implication is that, however fast the money supply increases, it cannot make people better-off in the long run. The excess monetary expansion is dissipated in higher prices.

      A fair generalisation is that, over periods of many decades, the growth of the money supply is related - although not identical - to the growth of nominal gross domestic product.

      2. High inflation is associated with high money supply growth.

      This is an extension of the first rule. As bonds have to offer a positive real return if they are to attract investors, high money supply growth is also associated with high bond yields. The crucial investment messages are, ‘if money supply growth is high and rising, sell bonds’ and, conversely, ‘if money supply growth is low and falling, buy bonds’.

      A good illustration is provided by Britain in 1972 and 1973, when the annual rate of money supply growth soared into the mid-20s ahead of an appalling bear market in gilt-edged bonds (and other asset classes, including equities and commercial property) in 1974.

      3. High money supply growth is likely when banks have ample capital and can easily expand their balance sheets by extending new credit.

      This is because the money supply consists mostly of banks’ deposit liabilities. Further, a well-capitalised and highly profitable (an under-capitalised and unprofitable) banking system is bad (good) for bond yields, because it will try to grow quickly (contract), which will add to (subtract from) both bank credit and the quantity of money.

      Japan in the 1990s exemplifies the argument. The banks suffered severe loan losses as the bubble of the late 1980s unravelled in the early 1990s. The result was a crippled banking system, a decade of stagnant bank credit and low money supply growth, and a decline in inflation which eventually became a deflation. Bond yields collapsed to the lowest ever recorded in modern times, with the yield on ten-year government debt hovering a little above 1 per cent for a few years.

      4. Although high money supply leads to more inflation in the long run, it may not do so in the short run for all sorts of reasons.

      Two common reasons are that the economy has a big margin of spare capacity ahead of the monetary injection or that it enjoys heavy capital inflows which cause exchange rate appreciation.

      In these cases high money growth may for several quarters be accompanied by low inflation, encouraging investors to believe that the economy has achieved some sort of ‘miracle’. The bubbles in the Asian stock markets in 1993 and in the USA’s NASDAQ stocks in 1999 and early 2000 can be interpreted in these terms.

      The rational investor has a difficult problem with bubbles like these. On the one hand, he knows that they must come to an end. (To repeat, there is no such thing as a free lunch.) On the other hand, an investment adviser who misses a big asset bubble may lose all his clients in the short run, while trying to prove to them that he is right in the long run. In monetary economics the short run and the long run are like Punch and Judy, and squabble with each other endlessly.

      5. For any given rate of money supply growth, a large budget deficit is likely to do more damage to asset prices than a small budget deficit.

      The reason is that the non-monetary financing of large budget deficits requires high short-term interest rates. High interest rates are unhelpful for medium- and long-dated bond yields, and so for other asset classes. The ideal conditions for a stock market boom are a falling budget deficit, low inflation, moderate but rising money supply growth, and a well-capitalised and profitable banking system. That is a fair description of the USA in the five years to 1999, which saw the biggest equity bull market in history. The most serious threat to a bull market of this kind is rising inflation, as indeed has been recorded in 2000 and 2001.

      ‘Privatization has made a great impact in the UK.The impact is only starting to be felt in much of the euro area. As inefficient state enterprises are moved to the private sector, look for efficiency gains to generate attractive returns to stockholders.’

      Paul Temperton

      Laurence Copeland

      Laurence Copeland holds the Chair of Finance at Cardiff University. His papers in academic journals cover a range of subjects including: inflation and the Phillips Curve, exchange rates and currency markets, stock and bond markets, index futures, mutual funds, Asian markets and the impact of the 1997-8 crisis.

      Books

      Exchange Rates and International Finance (3rd ed.), Pearson Education, 2000

      Exchange Rates and International Finance (4th ed.), FT Prentice Hall, 2004

      Currencies

      1. All things in moderation, especially greed.

      Don’t try too hard to buy at the

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