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Is the economy heading off a cliff?

When I was younger, I used to watch the Roadrunner cartoons (beep, beep!). I remember how Wile E. Coyote used to run after the Roadrunner and charge off a cliff with his legs still spinning. As soon as he looks down and notices there is no longer solid ground beneath his feet, he falls to earth in a puff of dust.

I am starting to get a little worried that the Australian economy is like the Coyote. In recent days we have seen the RBA cut interest rates to 3.25%, with some forecasters expecting more savage cuts to come as the economy slows down. New home sales out today hit a 15-year low of 5.3%, whilst our trade deficit recorded its widest deficit since March 2008 as coal exports dropped. This all bodes badly for our economy.

China, which has been the engine of the amazing run of economic growth, is undoubtedly slowing down as we approach a change in leadership with the Purchasing Managers Index (PMI) falling from 56.3 to 53.7 — spurring the Asian Development Bank to lower its 2012 forcast for the region from 4.4% to 4.2%. The collapse in iron ore has been well documented in the media, and looking further out, the long-term for this bulk commodity could get very nasty indeed with some assumptions as low as $70.

How will all of this affect the equity market? As we sit nicely above 4400, at the top end of the range, it’s hard to find anyone bearish despite the plethora of issues facing Europe and the U.S. The Dow (INDEX: ^DJI) continues to go from strength to strength, hitting multi-year highs, and even the moribund economy of the UK seems to be ignored by the FTSE (INDEX: ^FTSE) pushing up towards 6000. Smugness has set in and we are now so conditioned to the bad news that we have become comfortably numb. The U.S. fear index — the VIX — is below 16, which is 10% below its long-term average. Complacency is rife. Equity markets both here and overseas are very fat and satisfied about the risks that are posed by a Euro banking crisis or the slowdown in China. We are all hoping that it will be alright on the night. That central banks around the world will come to the rescue, as they have in the past. Are we right to hope?

The Foolish bottom line

I have been bullish on our market for some time. Skeptical and nervou,s but bullish none the less. They say that bull markets climb a wall of worry. Well, I am starting to worry. No one really knows to this day what set the 1987 crash in motion. Smarter people than me have done studies on the factors behind the massive falls we saw in October 1987 and I am not suggesting we will see the same thing again. All I am saying is after such a great run in the markets, maybe it’s time to take some profits and head back to safe high-yield paying stocks that have good cash flow and are insulated from the world’s woes.

Or, you can act like Wile E. Coyote and not look down.

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Motley Fool contributor Henry Jennings is getting very nervous. The Motley Fool‘s purpose is to help the world invest, better. Take Stock is The Motley Fool’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. Click here now to request your free subscription. This article contains general investment advice only (under AFSL 400691)

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