The next bubble

One can tell a story that the Fed's policy response to the Asian Crisis and LTCM collapse helped create the tech stock bubble, and Fed policy response to the tech stock bubble bursting helped create the housing bubble, so now the question is, given the emerging Fed policy response to the housing bubble bust, where is the next bubble and how do I get in on it??

The WSJ suggests it may be in emerging markets:

Now that the fallout from the downturn of the housing-loan market has prompted the Federal Reserve to cut interest rates, the race is on to find the next bubble.

Emerging markets are a popular answer.

Stock markets around the world rallied in response to the Fed's half-percentage-point cut on Tuesday, with shares in emerging markets -- generally defined as countries that have modest incomes but are growing fast -- posting the biggest gains. Mexico's benchmark IPC index on Tuesday rose 2.8% and Brazil's Bovespa rose 4.3%, trumping the Dow Jones Industrial Average's 2.5% gain.

Yesterday, Asian markets, which had been closed when the Fed announced its rate cut, joined the party, with India's Bombay Sensex climbing 4.2% to cross 16000 for the first time.

The rush into emerging-market stocks is in part because of a belief that the Fed's rate cut, as well as easier policy stances at the European Central Bank and the Bank of England, will end up bolstering fast-growing emerging-market economies more than any others. Proponents of this view say that in 1998, easy money flowed into fast- growing technology stocks following the Asian financial-market crisis and collapse of the hedge fund Long-Term Capital Management. The belief that tech stocks were immune to any downturn helped fuel the dot-com bubble.

"It's like 1998 in reverse," says Michael Hartnett, an emerging- markets strategist at Merrill Lynch. "A bubble is more likely than not. But I think we're only at the beginning of that process." He is bullish on emerging markets as a result.

Mr. Hartnett isn't the only one to draw the 1998 analogy, or point to the possibility of a bubble developing.

A month ago, Morgan Stanley emerging-markets strategist Jonathan Garner wrote that the current market environment is "the mirror image of 1998." In early August, Christopher Wood, a Hong Kong-based analyst at CLSA Group, wrote that "just as, first, American tech stocks and then American housing finance were bubble beneficiaries of Fed easing post-LTCM and post-Nasdaq collapse, so Asia and emerging-asset markets will be the likely bubble beneficiaries of the coming Fed easing."

Of course, I don't mean to imply that the Fed has/is creating serious moral hazard problems, but.....

What is striking, says Investment Technology Group economist Robert Barbera, is that the idea that there could be a bubble on its way in the emerging markets is a cause for glee rather than caution. "Very few people are saying, 'Oh my God, it's a bubble,'" he says. "They're saying, 'Whoopee, it's a bubble.'"


Ouch.