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taking stock

True believers in the prescience of markets must be feeling pretty good about the future these days.

The S&P 500 closed Friday at its highest point since June, 2008. The narrower Dow Jones Industrial Average also tested highs not witnessed in nearly four years. At one point, the tech-heavy Nasdaq composite index reached its highest level since December, 2000. Buying was brisk from Toronto to Tokyo, and more money has poured into emerging markets than at any time in the past decade.

The latest survey of institutional money managers by Bank of America Merrill Lynch found most of them confident the world will avoid another slump and eager to load up on risk. In fact, a net 44 per cent said they are now overweight emerging market stocks, a jump from 20 per cent in January. The shift in sentiment was the biggest one-month swing in more than a dozen years.

Commodities also seem to be in the midst of another surge. And in parts of battered Europe, investors have been displaying considerably more optimism than is warranted by the dismal facts on the ground. Why, they have even taken to buying bedraggled European bank stocks again, now that the European Central Bank has essentially guaranteed their continued solvency.

"We're getting a little bit of what we saw early in 2009 when everything was priced for Armageddon," says Richard Cookson, global chief investment officer with Citi Private Bank in London. "If you look at financials in Europe, quite a lot of them have been basically priced for bankruptcy."

That is not nearly enough to entice the deeply skeptical Mr. Cookson. The liquidity injections from the ECB and other central banks will continue a bit longer, he says. "But ultimately, the growth concerns come through and hit you in the face."

Indeed, the veteran strategist has a blunt message for all equity players: "Enjoy the rally while it lasts," because further easing or the promise of same "won't stop a sharp deceleration in global growth and corporate profits this year."

His reasoning is simple: If the private sector essentially keeps its hands in its pockets and the public sector curtails spending, in line with tightened fiscal policy and other austerity measures, "where does growth come from? It's a pretty straightforward mathematical exercise."

What Mr. Cookson sees in his clouded crystal ball is much of the industrial world turning into a version of Japan in all its post-bubble misery over much of the past two decades.

Fed chief Ben Bernanke, an academic expert on Japanese monetary policy failures, and other decision-makers have repeatedly defended aggressive intervention by raising the spectre of a Japan-style nightmare featuring economy-crushing deflation and years of stagnant growth. When Treasury Secretary Tim Geithner was wrestling with the U.S. banking crisis in 2008 and early 2009, he pushed hard for aggressive intervention to prevent what he feared most: a "lost decade" like Japan's.

But Mr. Cookson says that policy makers have ended up with exactly what they feared.

Monetary authorities in the U.S. and Europe would counter that they have applied much stronger medicine at a much faster clip than the Japanese ever did. "That's just rubbish," says Mr. Cookson, who chronicled "the gradual and sometimes not so gradual demise of the Japanese financial system," as a Tokyo-based correspondent with The Economist in the late 1990s. "It's merely that the [global]problems were far greater, which necessitated a greater policy response."

But at the end of the day, similar problems that undid the Japanese are hard at work elsewhere – namely that the private sector is reducing debt and fixing balance sheets, central banks have no room left to cut interest rates and no one wants to borrow.

If businesses and consumers are busy saving instead of spending, the rate at which capital is deployed for transactions of goods and services – the velocity of money, in econospeak – declines. As in Japan, "the velocity of money is just collapsing everywhere in the developed world," Mr. Cookson points out. "In order to offset that you need the central bank to expand its balance sheet. That's exactly what we're seeing." While that may prevent contraction, it's certainly not enough to spur growth.

As a result, Mr. Cookson remains unmoved by the global equity rally, even though he acknowledges that being too gloomy late last year cost some opportunities. And he is certainly no fan of government debt. What he does like are long-term corporate bonds, of both the investment-grade and junk variety. "We're basically overweight risk assets, just not equities. … Short-term, I'm quite optimistic. Long-term, I'm optimistic. It's the medium term that's the problem," he says with a laugh.

As for those still plowing money into markets like China, which he is convinced is headed for a hard economic landing that will compound global woes, he warns that "hope is not an investment strategy. Well, it is actually," he says after a pause. "It's not a very good one."