Gold and China seem good bets

Strategists tasked by their investment banks with making sense of complex equity markets tend to not be the conventional City of London types.

French banking house SocGen, in particular, has become a haven for slight eccentrics. For years, its strategy team won every award going for their value-driven, contrarian views. Now that the team's equity strategist James Montier has moved to fund manager GMO, he has been replaced by a character with the same potential to provoke discussion: Dylan Grice.

Looking back

Grice is a strategist who's happier quoting from history books than pontificating on the future direction of the FTSE. And he's willing to act on his own views. One example of this willingness to take big bets is his regular purchase of a small amount of gold coins every month.

"The reason I buy gold is because I like history," he tells me. "And the amazing thing about reading history is that you see how horribly wrong things go. Frequently!"

So what are Grice's candidates for future disasters? A small amount of probing reveals a couple of concerns: monetary easing and China. Grice is, like many buyers of gold, deeply uneasy with the monetary experimentation of recent months, which he believes will result in huge inflationary problems.

But his take on China is more nuanced, and takes in historical and geopolitical analysis. "If China ultimately achieves a per capita GDP which is about three quarters that of the US, it's got four times as many people, so it'll be three times the size of the US," suggests Grice. "That means its military will be three times the size as well. It'll be more than capable of protecting its interests and projecting its power. The rise of China is going to be the defining shift, in our lifetimes … so maybe I'll own some gold."

First, though, China has to contend with a short-term deflationary boom, which will end up in a deflationary bust. "You'll see just a complete overbuild of capacity," says Grice. This massive overbuild is being fuelled by the colossal scale of industrialisation. "When you look at the per capita oil consumption, per capita iron ore consumption, per capita copper consumption, it's incredibly low. If that moves up to Western levels, and then you multiply that by a billion [consumers], you just get mind-boggling numbers, and you can map that across to TVs, to cars, to tyres, to razors, to anything you like."

Grice believes China is destined to go down the same path as Japan — and the likely next stage is financial liberalisation.

That will prompt the fin-al stage of the boom/bust cycle, he argues, as it did in Japan in the 1970s and 1980s.

"Money started flowing to sectors of the financial system that really didn't know what to do with it," he says.

"All of a sudden you've got a banker who's used to lending money to his local newsagent, and then he's getting visits from JP Morgan about doing dollar swaps over ten years."

China will repeat this fin-ancial liberalisation eventually, according to Grice — and this boom and bust cycle will pose a huge challenge to investors.

Helpfully, Grice is clear about timing any purchase of Chinese equities.

"I don't think China looks that cheap at the moment. It doesn't look hugely expensive but it looks a bit frothy," he says. However, he adds: "On the path to this mother of all bubbles that I expect to see, there will be occasions when the Chinese market is extraordinarily cheap."