Why regional mkts are tanking & why it’s a risky moment

In Financial competency on 22/08/2013 at 4:50 am

Thailand and S’pore have lost all its 2013 gains. Indonesia in now into bear territory, and M’sia is now being targeted. Why

But first the good news.The sell-off isn’t Asean specific. It is affecting all emerging mkts. Explanation below.

There is also a technical reason for the markets’ moodiness: August is when most ang moh traders and fund mgrs go to on hols. This means lesser volume, and hence more volatility. And for those jnr staff left on duty, the standing order is “Avoid risk. Sell when you think others will sell or are selling”.

Now for the financial hard truths.

On the bit why regional (and other emerging) mkts are tanking, it’s the fault of US Fed. Explanation:

When a central bank buys certain kinds of assets they leave the banks or funds who sold them the assets short of the particular kind of asset the central bank bought. So a fund that intends to keep a certain share of its portfolio in safe-ish long-term debt will sell Treasuries to the Fed in exchange for newly printed cash, but will then find itself in need of portfolio rebalancing to get back to its preferred distribution of risk, maturity, and so on. The fund then takes its cash and buys something similar to the assets it sold: highly rated mortgage-backed securities or corporates, for instance, or the safe debt of foreign governments. But the funds selling those assets will also need to rebalance, and they may adjust their portfolios by purchasing safer emerging-market debt or equities. As the money works its way through the system it raises asset prices around the economy. And because some of the rebalancing involves purchases of foreign assets, they weaken the domestic currency and can reduce borrowing costs and raise equity prices abroad.

That was the effect of Fed’s policy of “printing money” or QE programme.

Now fast-forward a couple of years. Financial markets had been moving money around based on expectations that central banks would end up buying a very large chunk of assets. But beginning in the spring Federal Reserve officials made statements hinting that they would in fact end up buying a somewhat smaller chunk of assets. As financial markets began to react to the change in outlook, the previous stimulative effects of QE started to unwind. As funds realised they would not need to replace as many Treasuries as they thought, Treasury prices fell (and yields rose) and so did prices for Treasury substitutes. That knock-on effect made its way around the world. Prices of emerging-market assets also sank, as did emerging-market currencies.

As to why it’s a risk moment:

To simplify things: QE was pro-cyclical for emerging markets but counter-cyclical for advanced economies and was probably beneficial on net. Now the end of QE may prove pro-cyclical in emerging markets (exacerbating ongoing slowdowns) but is also pro-cyclical or at best neutral in advanced economies (since tightening is occurring amid a continued demand shortfall). And so the end of QE may well be quite negative on net.

It would be extremely premature to warn of disaster. Rich-world central banks may react to market stumbles by pushing back the start of tapering, and emerging economies may avoid overzealous rate increases in the face of sinking currencies. But the world has reached a risky moment. Though advanced economies are a long way from full recovery and emerging economies are slowing, central banks are almost uniformly moving toward a tightening bias. If policymakers aren’t careful, things could end badly.

If you must invest, look for stocks that pay decent dividends that are sustainable. As for reits, I remain cautious, though the recent price falls do look tempting.

  1. Wise advice,”although the time is not ripe yet,but it is not far away.”- Lord Maitreya Buddha.

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  3. “Why it’s a risky moment?”
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