China factor to watch in any emerging market rally
IN the short term, any rally in emerging markets (EMs) will likely be tempered by concerns over, among other things, the deepening trade war and slowdown in China.
Overhanging EMs are fears over high corporate and household debt in China and a bitter trade war with the US, which has the support of Republicans and most Democrats.
A recent bank run at the Bank of Zigong in Sichuan Province, where shareholders absconded with 40 billion yuan issued to shell companies created by them, may be a sign of a crisis of confidence.
In many economic hubs in China, municipal authorities have, like those in Zigong, borrowed large sums of money to finance local infrastructure projects.
With a deepening slowdown that may exacerbate debt repayments, the risk is that such a potential crisis probably stemming from small banks in China, may undermine any return of investor confidence in EMs.
This incident in Zigong follows an earlier run on peer-to-peer lenders who get money from retail investors and lend to consumers, usually without collateral.
“It is a sign of waning confidence,’’ said Pong Teng Siew, head of research, InterPacific Securities.
Against trade war worries, data shows that tariffs are not only hurting China’s economy but also US companies; markets are watching for any compromise as both sides are hurting with more pain to come.
Tariffs paid by by US companies surged more than 50% in September, hitting US$4.4bil, of which US$800mil was for Chinese imports and US$545mil for steel and aluminium, said CNBC, quoting an industry coalition called Tariffs Hurt the Heartland.
The US dollar, which strengthened on news that the Fed still plans to hike rates next month, is expected to soften next year as the impact from the huge fiscal stimulus fades.
There may then be less pressure for the Fed to raise rates; currently, three gradual rate hikes are expected for next year.
With a split Congress, further tax cuts are unlikely; the US economy may lose some momentum as already seen in the housing and auto sectors, as well as business spending which will have some impact on future hiring.
Markets are bracing for lower US corporate earnings as the effect of this year’s tax cuts wane, and the global slowdown gathers pace.
A weaker dollar spells relief for EMs which have suffered from capital outflows that seek higher returns from the US dollar, and higher financingcostsonsubstantialUS-denominated debt.
“A divided Congress is seen as negative for the dollar as it is unlikely that any new fiscal stimulus could be launched to counterbalance forecasts of slowing growth next year,’’ said Anthony Dass, head of AmBank Research.
But the tight liquidity situation, which has come under criticism for the quickened pace of Fed’s balance sheet reduction, may also dampen any EM rally.
Since the recent meltdown, many EM currencies have staged some form of recovery although they may still falter on weak fundamentals.
The Turkish lira rallied following its rate hike from 17.75% to 24% in September, and improved relations with the US; inflation in October hit 25.2%, the highest in 15 years.
The Argentine peso has rallied 13% under a new monetary plan that seeks to reduce the amount of pesos in circulation; inflation for 2018 is forecast at 47.5%, said Reuters.
The South African rand has gained 11% since its lows in early September; the country has unemployment of 27% and growth at 1.4%.
The Indian rupee has gained on easing oil prices and granting of waiver to India from US sanctions on Iranian oil imports.
The Indonesian rupiah has surged the most since 2016, with foreign funds snapping up bonds and stocks, on resilient domestic fundamentals and growth exceeding 5% for the seventh straight month.
How far can any EMs rally go, remains to be seen. For now, EMs are considered cheap with selective stock picks possibly those not so much affected by the trade war.
Against slowing global growth and the Fed close to the tail end of its hiking cycle, “stronger EMs should see some return of foreign funds,” said Hor Kwok Wai, chief operating officer, global markets, Hong Leong Bank.
Not all Democrats who now control the House of Representatives, support the trade fight; “investors may perceive some moderation in policies and potentially, some softening in the US’ stance,” said Thomas Yong, CEO, Fortress Capital.
An obstacle may be trade hawks within President Donald Trump’s administration as Trump himself has reportedly signaled a number of times, his eagerness to make a deal.
Talking to those who have the ear of the President, matters.