OUR Hock Lock Siew column of Dec 18 ('Reliance on cheap money is dangerous') warned that the ballooning sovereign debts of European countries would become a major problem but our conclusion was that for the time being, the market would probably gloss over these problems as momentum was upward and complacency was at a high.

 

Last week's column in the meantime, discussed the likelihood that Wall Street, the source of the world's problems, was still overly optimistic about its economic and earnings outlook.

 

So it has come about that a combination of both these factors was at play during last week's sell-off.

According to conventional wisdom, the market's current woes were first brought about by China's threats of increased bank restrictions two weeks ago, then Wall Street's earnings/economic worries and to cap it all off last week, Europe's sovereign debt problems.

 

Look closely and you'll see one common threat uniting all of these apparently diverse concerns - an over- reliance on borrowing.

 

Although we do not subscribe to the school of thought that considers China's tightening to be a big factor behind the selling of equities in the past fortnight, it's nonetheless pertinent that the China-related worry is founded on the likelihood that growth in China (and by extension the region) will be poor if banks aren't able to lend (or if you prefer, people are unable to borrow).

 

In Europe, Greece's public finances make for wretched reading - its budget deficit is 13 per cent of GDP, more than four times the Maastricht's suggested 3 per cent limit. It is also underlined by a public debt-to- GDP ratio that is expected to exceed 120 per cent by year-end.

 

Desmond Lachman, resident fellow at the American Enterprise Institute, wrote last week that without its own currency, Greece cannot devalue its way out of crisis and that the only way it can regain international competitiveness is by engineering, over time, a 20-30 per cent fall in domestic wages and prices which in turn would boost the public debt-to-GDP ratio to 150 per cent.

 

The silver lining is that Greece's European partners are as worried about a debt default as Greece itself and so should bail the country out.

 

Whether this can be described as a good thing is debatable; for all current intents and purposes, it's enough to note that excessive borrowing lies at the heart of this particular bout of stockmarket nervousness.

 

As for the US, the over-dependence on debt to stimulate growth was, and still is, the economy and market's main millstone.

 

This has been a point we have discussed several times before in this and other columns so there's no need to belabour the point; suffice to say that an economy that can only survive on borrowing must surely be living on borrowed time.

 

As for the outlook for equities, DBS Group's latest strategy report probably best describes the situation. 'Sell on rebound! We believe the 10-month rally last year has ended and equity markets have sunk into a correction phase.

 

'We see ERP (equity risk premium) expansion in Q2 and the risk appetite for Asian equities should remain low during H110 because: 1) China has started to tighten its monetary policy one quarter earlier than expected in a bid to curb escalating asset prices. 2) Equities have priced in the V-shaped recovery. Growth will moderate going forward.

 

'3) Uncertainty about the impact on recovery as central banks wind down stimulus programmes. 4) Potential unwinding of US 'carry trades' as the USD rebounds on sovereign debt strains in Portugal, Spain and Greece. 5) Risk of fund redemptions.

 

'With these uncertainties and mutual fund cash levels fallen to near levels not seen before since Q307, the period when global equity markets were peaking, the risk of fund redemptions increases.