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Sunday, August 15, 2010

End of the Brief Hiatus and on to the Deflation

Now that I have finally moved into my new abode I can recommit myself to blogging.

A general issue that I have talked to a number of people about is what to do in the event that there is persistent and nagging deflation in the economy. I will say that the one good part about the onset of deflation in the variety that we see in Japan is that you have plenty of time to recognize it before the market actually punishes you for missing it. It isn't as though "the market" wakes up one day and goes through this logical exercise "IF CONDITIONS = "DEFLATION" THEN "40% SELL OFF"".

One will have ample time to first recognize the onset of persistent deflation and then adapt policies to it. I would say that we are seeing definite signals in the equity and credit markets that market participants are quite concerned about the prospect of slow and grinding deflation. With the 10-year at approximately 2.7% and stocks seemingly rangebound, we may be getting some early signals, but there is no sense in acting harshly on this as the effects of equity and credit markets are gradual enough to allow for a very thoughtful and gradual reallocation. As of right now, as the dynamic allocation model will show when I update it later today, a healthy allocation to equities is still warranted.

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