Thursday, May 18, 2006

Asian Markets Opening Comments
Thursday 18 May

Bourses followed the US lead in sympathy, rather than in actual weakness. In the US, stocks declined the most since January after consumer prices increased 0.6% in April. Excluding food and energy, so-called core prices rose 0.3%, Labor Department data showed. Economists had forecasted 0.5% and 0.2%increases. So what's new? Readers of my blog will know these are not new factors, but the gradual unveiling of the natural course of events:

a) US wants a weaker dollar and a stronger yuan to combat the deficit. The weaker dollar is also a preferred strategy by the Fed though not often announced publicly.

b) Yuan is appreciating very slowly but surely, other developed and developing currencies are gaining a bit faster against the dollar. Other countries have a built safety device to absorb inflationary spikes via their appreciating currency.

c) The Fed has no choice but to engage in a regular raising of rates. Holders of US bonds for the past 6 months have been one of the worst performers, losing in pricing and currency. Bernanke will have to raise rates further to satisfy foreign demand for better yield before buying Treasuries. Another 100 to 200 basis points from now till year end is not out of the question.

d) Will the rate increases jeopardise the US economy. Inflation will rise, but the dollar will weaken further, but so too will the attractiveness of US dollar assets such as stocks. Its a deliberate tango of death, no mis-steps from anyone please! US equity stays strong, everyone is happy.

e) Will this scenario affect global demand - no, because Asian markets by and large are doing well, there is a wealth re-creation period with stronger currencies and higher demand, underpinned by the economies of China, India and Japan.

f) The commodities boom has been due largely to the dollarisation effect (as argued in my previous blogs)... too much dollars swishing around in the global economy, and the jump in issuance of ETFs for commodities. The correction in commodities last week was very good as no one got hurt really bad.

The current pullback was due to two events: the commodities correction and US inflationary pressures - both not unforseen and it coincided with global equities that was searching for reasons to correct, rest and concolidate. Hence the weakness is only temporary in nature. Can buy on weakness. The bull run has got some legs yet in it. There is one qualification, the above scenario would crumble if oil prices touches US$100 cos then everybody will have to face higher inflation that is not sufficiently tampered by gains in productivity, and a global slowdown in demand may follow. That has a less than 20% chance of happening so bullish hats still on, but good to keep track of oil prices.

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