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Marcuard's Market update by GaveKal Research
Developed markets are on a roll, with the US and Japan up around 10% and 8% respectively YTD in US dollar terms. Overall the World MSCI has gained 6%—with the main drag coming from the EMU, down nearly -1%, and emerging markets, down –2% YTD.
Why are the traditionally high beta EM countries, especially the export oriented ones in Asia, being left in the dust?
The first problem is the stronger US dollar, which tends to have an inverse effect on EM liquidity. During the weak dollar environment in the past few years, countries with a soft peg to the USD, like many of those in EM, pumped liquidity into the system to ensure their currencies did not rise too fast against the dollar. This strategy fought deflation and led to strong asset price gains, thus attracting even more inflows. Moreover, the combination of a weakened external environment and lower borrowing costs, encouraged a credit boom aimed at boosting local consumption. This was especially true in Southeast Asia, where low leverage levels allowed ASEAN countries to respond to the 2008-09 crisis by gearing up on cheap credit to fund infrastructure, new condos, new cars and motor-bikes, etc. But when the dollar is strong, this phenomenon reverses—there is less scope for the creation of currency intervention-related liquidity. And with higher debt loads, and less currency strength to dampen inflation, it looks like the credit cycle will need to be crimped.
The second problem is the weakening yen, which is a nuisance for regional exporters, especially Japan’s closest neighbors in the more industrialized north of Asia. Even if volumes go up, it will be challenging to raise prices when the Japanese currency is becoming more competitive. Moreover, these countries also export to Japan, where yen weakness will weigh on import demand. The yen depreciation has yet to show meaningful impact on trade results but stock performance for neighbors have rerated downwards in anticipation. And given deeply set deflationary expectations, Japan’s aggressive turn in monetary policy can be sustained for some time. South Korea recently revised GDP estimates for 2013 down on yen weakness caution and the negative impact on its export sector.
Finally, China is not helping. China in the past decade has snatched market share of global exports from its Asian peers—but at the same time, it has also become a major local importer and driver of regional growth. In 2005, some 25% of Taiwan and South Korean exports went to the US and Europe; today only 16% do. Over the same period, China’s export share in these markets expanded from 22% to 25%, becoming by far the largest single trade partner with both these Asian export powerhouses. Some recent disappointing Chinese industrial production and retail sales fuelled concerns that the pick-up in the country's growth rate may not be as robust as first thought. This is especially so since imports have yet to show any improvements. In addition, the higher than expected CPI of 3.2% in February limits the government's ability to do more to shore up any further deterioration. Looking forward to the medium term, the heightened risk of tightening measures will likely limit broad demand growth and imports.
Disclaimer: This information may not be construed as advice and in particular not as investment, legal or tax advice. Depending on your particular circumstances you must obtain advice from your respective professional advisors. Investment involves risk. The value of investments may go down as well as up. Past performance is no guarantee for future performance. Investments in foreign currencies are subject to exchange rate fluctuations. Marcuard Cyprus Ltd is regulated by the Cyprus Securities and Exchange Commission (CySec) under License no. 131/11.
