My Diary 374 --- No Conviction Call, Not Out of Wood, How Far From The End, Need More Patience
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Regionally, Asian stocks rose after ISM manufacturing unexpectedly increased (+50.7 vs +47.4) and the speculation of more M&A activities after Chalco took a stake of Rio Tinto. Broad index, MSCI AP climbed 1.5% in the mid-day, while Hengseng Index upped 3.12%, HSCEI gained 5.56% and CSI300 climbed 7%..... It looks like we are heading into a happy Chinese New Year Holiday.
But I don’t think this rally implies the ending point of global financial markets. With 125bps rate cut by the FOMC and essentially pre-committed to doing more, if economic and financial conditions warrant, a light data week will see market recovering from stresses and panics. Having said so, there are more data to show that the
In the near term, as I discussed in my previous Diary, the markets will continue to monitor the developments surrounding the monocline insurers. If they get downgraded, then it may mean another wave of credit crisis and large asset write-downs, with serious negative impact on the economic growth prospects …… Let us take a final look of US before we hit the road for Hot Pots…..
There Is No Conviction Call
The market still holds a view that even with the latest rate cuts, the “bad” parts of
Policy wise, the Fed is working very hard to catch up on the deflation curve, but it remains to be seen whether the heightened effort by the central bank has turned the stock market around. Economy front, there is long list of negative news for US consumers, including equity market losses, declining hosing prices, stretched household finances and elevated energy prices. The main offsets to these negatives are aggressive policy action at the Fed and the forth coming fiscal relief.
In reality, there is still a crisis in trust and confidence as a majority of investors believe earnings disappointments in the financial sector are not over yet, even though bank stocks collapsed more than 40% peak-to-trough and several bank CEOs have resigned. Looking back the history, when TMT bubble burst in 2000, the bad earnings shocks simply kept coming – until many of the tech companies started to overstate their own bad news in an attempt to create “better surprises” later on. The bottom was made on Oct 2002.
As a result, if history will repeat itself and our human nature has not changed substantially (I will bet on!), the latest bear market will continue to extend on for a while and evolve in several rallies and potential setbacks. But in the end, share prices will move higher on lower rates and improving prospects for growth…… Woo, I am not saying after CNY, guys…
We Are Not Out of Wood
A key question now is how much the bad news has been priced in? …Well, I think we should look for the answer from credit markets, the starting point of recent market meltdown. Overall, the Credit spread is still under pressure, measured by CDS (120bps, NAIG) and the prospects for the CDO market remain dangerous, plus bond insurers continues to be downgraded. In the
The root cause of the current financial problem is severe price deflation in housing, then turning into a
How Far From The End
Well… I will call the Mr. History Again…as I think historical experience could provide a useful guide on how advanced the current sell-off has progressed. A simple rule of thumb is that when a reflation cycle begins, it usually requires the Fed funds rate to be reduced by at least 60% before corporate profits and GDP growth can reach a bottom. The sensitive stock market often rally 3-6months before the economy touches its trough.
In other words, a 60% reduction in borrowing costs seems to be a threshold to allow a reheating process to begin. Applying this rule, the Fed funds rate will have to drop to 2% to represent a 60% reduction…this is quite consistent to the calls form major Wall Street Houses …… It is interesting to note that as time passes, FOMC needs to cut more to get similar results…… Buy more medicines for the same sick man… For instance, rates were dropped by 70% during the S&L crisis in the early 1990s, while they were slashed by 80% when the TMT bubble burst early this decade. Therefore, we may see the Fed funds rate dropped to 1%, the equivalent of an 80% reduction, before the economy turns around.
Bottom-line: the Fed still has quite a long way to go. Again, stocks will probably rally way before the final rate cut.
We Need More Patience
Talking about the timing, the market needs more patience. Last week, Goldman reported that risk appetite receded further witnessed by falling trading volumes across
Personally, I am not a buyer of a complete decoupling theory as Asian economies remain reliant on foreign demand; although there are encouraging trends that suggest growth in EM world will do better than it has in previous G7 slowdowns, including private consumption, capital spending, easy monetary conditions and already strong currencies. Certainly, the strong external financing positions should add to EM’s ability to absorb negative shocks. Thus, structurally, investors should believe that EM equities should regain strength relative to the global benchmark
Our HK stock market has been extremely volatile in recent weeks, with investor sentiment swinging wildly between two extremes --- 1) expectations of a double boost to HK from aggressive Fed easing and strong Chinese growth; 2) fears of a double whammy from a deep US recession and Chinese monetary overkill. I will put my bet on the first camp as the retail sales (16.8%) and unemployment (3.4%) is leaner to the growth scenario. In addition, the HK economy will continue to benefit from falling interest rates as has historically been the case during past Fed easing cycles, on the back of my belief that Chinese government will not slowdown the domestic machines further, if inflation eased.
Bottom line: Long Pure Hong Kong Equities/ Neutral on H-shares in the near term.
Good night, my dear friends!
