Friday, January 26, 2007


Big Picture - Capital Flows
Tough At The Top

When equity markets are at all time highs, its tough for everyone. You don't want to miss it but you are wary of the short term correction. This current global bull run has captured almost every equity market into its grasp. If we were to look at it - this bull run looks quite tame, not much excessive exuberence. Which is good because it means there is less froth. Of course, I am refering to most of the European markets plus US and even Malaysia and Japan. Markets that look more frothy are the ones in HK, China and Singapore. FVrothy as in the sense of more speculative plays and margin plays. So, in a nut shell, on participation level markets still look "safe-ish".

On factors affecting capital flows - interest rates and interest rates expectations. ECB - flat or down. Federal Reserve - Flat with possible downside bias. Bank of Japan - Flat with upside bias. China Central Bank - Flat. Interest rate expectations is probably the most important indicator for assessing capital flows. The US equity markets was rising and rising, and many were expecting an imminent drop in Fed funds rate in the coming months. This would serve two purposes, the main one being to have a soft landing amidst a slowly weaker economy; and the other being to engineer a weaker USD. The US markets fell last night on the drop in inventory of unsold homes and a weak 5 year T-note auction. The weak auction indicates weak foreign participation, thus pushing up yields further = foreign investors want higher yields or would want to enter only at a much weaker USD. Both predictions have a strong probability of becoming a reality in the coming months.

But you cannot really have both at the same time as higher rates tend to push the currency stronger, and at the same time weaken the economy. The Fed's strategy is likely to be flat rates, weaker USD.

Capital flows in Asia would be an important factor as well. Will capital rush out? Growth in GDP and earnings are there for most Asian countries. Despite the overall strengthening of Asian currencies against USD, its not so bad because almost every Asian currency is rising at the same time, meaning the export competitiveness is not eroded vis-a-vis other Asian exporters. Growth is good, and the stronger currencies give them a better way to manage imported inflation.

As long as the Euro and especially the USD are on a weakening path, investors will gladly park their funds in Asia. So, the biggest derailment factor is capital flows rushing out of Asia = a strengthening USD. It looks like the USD will spend a lot of time during 2007 on the weak side. Just how weak is weak enough? Till there is a dent in China's trade surplus? That will take years.

Whatever it is, there is little risk now of capital rushing out of Asia, but we need to monitor developments. On the economic front, this look fine for all. One thing which could cause a flight to USD is political risk or risk of war/conflict, so keep your eyes open.

8 comments:

TradeAnything said...

Should BOJ up the interest rate, will you see strong impact on the equity markets?

sopskysalat said...

Today, the release of inflation data indicated a slower pace which could dampen the push for higher rate rise. The fact is, as you have mentioned earlier, what is the rate in japan now? 0.25% or virtually nil. What is the way forward? Of course up rather than going down. The probability is always higher when it is at the bottom.

Interestingly, the market always focus on the negative of rate hike. Japan has been struggling for years and finally, we see rate hike coming, shouldn't we see that as more positive than negative. True that pure finance theory will say rate hike is bad.

Nikkei is not as strong as HSI, STI and Shanghai. So, I still think there is a lot more to catch up and may just probably be the new leader in 2007.

Only wonder if it can hit 19000 or more by year end.

simon_alibaba said...

what in a world is going on with UEMWORLD, Leg Mason bought more than 5% stake, is this the begining of a new capital flow into Asia due to the anticipated weakening of USD, I was told going toward 3.20. Apparently foreign accumulating Drbhicom. any comment dali?

Salvatore_Dali said...

if anything boj will up rates soon as the economy there is recovering nicely... i have argued many times that people are just being silly if they want to look for negatives at 0.25 - if they go lower its bad shape, if its flat, its benign, not good. Only when they can see economy growing respectably will they raise it. Historically, the Japanese economy can take it up to 2.5%, so we r in for a very very long boom period for Japan, only this time less recklessness. 19,000 is not a problem, i am looing at 20,000 this year

Salvatore_Dali said...

the first tier blue chips have been pushed up, as expected they will now look for second tier big caps to maintain exposure ... current mkt conditions and currency outlook makes Malaysia a must have exposure... as written a few days back, the glcs and govt-connected will be the flavour .... uem world, mrcb.... 3.20 for uem world, not a problem in this kind of mkt. 1.80 mrcb, also not a problem.

sopskysalat said...

dali,

one of the reason which i think why HSI and STI are outperforming and so called, more froth-ty than the rest is due to its derivative market is attracting higher participation. the warrant market is HSI is one of the world most traded while STI has seen that growing at its fastest pace as well.

yes, my technical indicators are telling me nikkei should hit 20000 as well. probably buying exposing some fund into the market will benefit too.

thanks! enjoy the weekend.

simon_alibaba said...

coincidently just got a tip off to buy DRBHICOM up to 250& MRCB & E&OPROP!

may this be our RedPacket.

The Mumbling Priest said...

Hi, saw this today from a Reuters article:

"The dollar scaled four-year peaks against the yen on Monday amid expectations of strong U.S. economic data this week ..."

"This week is make-or-break week for the U.S. dollar," said Kathy Lien, chief fundamentals analyst, at Forex Capital Markets in New York.

"The foreign exchange market has turned very dollar-bullish after a series of upside surprises in economic data, causing a sharp plunge in rate cut expectations," she added.

Dali, is this why the markets are down this morning? How would you interpret this?

Thanks