Tønsberg, Norway

Mark Mobius, who runs the emerging markets team at Templeton Asset Management, warned that a new financial crisis will develop from the failure to effectively regulate derivatives and the extra global liquidity from stimulus spending.

Mobius is an old hand in the emerging markets. He’s led the emerging markets group at Templeton since 1987 and recently forecast a big recovery for the asset class earlier this year amid a financial crisis in the major economies. To-date, the MSCI Emerging Markets Index has surged more than 35%.

But the seeds of another market meltdown are currently being sown, according to Mobius: “Political pressure from investment banks and all the people that make money in derivatives” will prevent adequate regulation, said Mobius, who oversees $25 billion dollars as executive chairman of Templeton in Singapore.

“Definitely we’re going to have another crisis coming down. Banks make so much money with these things that they don’t want transparency because the spreads are so generous when there’s no transparency,” he said in a Bloomberg interview on July 15.

A “very bad” crisis may emerge within five to seven years as stimulus money adds to financial volatility, Mobius said. Governments have pledged about $2 trillion dollars in stimulus spending. Mobius also thinks stocks can plunge 15% to 20% rather quickly as investors grow nervous again.

The United States is just throwing bundles of money at the financial crisis rather than effectively letting banks and other companies fail – despite the severe consequences of job losses that would entail.

From a portfolio management risk perspective investors are playing a game of “chicken” chasing the stock market amid the worst destruction of credit values since the 1930s and soaring unemployment. Latest data from the Bank Credit Analyst shows that U.S. bank lending is not growing in 2009, despite TARP.

Investors have also bet the ranch on government spending to bail-out the market and the economy from the near depths of Great Depression II. In my book, that’s the wrong way to invest. Buying stocks and a host of risky assets now might seems like a smart trade as stocks recover since March but fiscal stimulus won’t indefinitely supplant organic consumer spending – now clearly in savings mode since late 2008.

My exposure to stocks remains the lowest in 18 years. My European managed accounts are actually net short again since July 1 while my U.S. accounts are about neutral or barely long in equities.

The biggest equity-linked exposure I maintain since March is through convertible bonds, which were hammered last fall as stocks and credit crashed. But the premiums on convertible bonds have risen markedly since April and I wouldn’t buy these securities now.

This is a very uncertain economic environment. Previous crashes marked or triggered by a deep financial crisis over the last 150 years have clearly resulted in a sluggish and uneven economic recovery thereafter. This won’t be your typical post-WW II recovery because financial intermediation has been almost wiped-out while bank credit expansion is virtually nil. Without domestic consumption and bank credit growth any economic recovery will be frail at best and ultimately, will collapse or head for a double-dip recession assuming the economy grows this quarter.

You don’t need equity risk to make money in the market.

Investors have lost money in stocks since 1996 and while the prospects look better for stocks than T-bonds over the next 12 months after a major crash in 2008, I suspect the risk-to-reward obtaining those returns is too high and fraught with great uncertainty. Instead, look to buying convertibles and high quality corporate bonds following a correction this summer or fall and adding to gold stocks, gold and silver. Also, reverse indexing looks compelling for stocks, T-bonds and junk bonds – all expensive relative to this economic cycle.

Stocks aren’t the only game in town.