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What Are The Dangers For 2007

Everyone seems to be quoting the following article about US$22b being plowed into emerging markets:

Emerging market equity funds attracted US$22.4 billion (about RM77.6 billion) in 2006, of which US$11.2 billion or half of total inflows went into China related equity funds, according to Emerging Portfolio Fund Research (EPFR). The US-based EPFR - which tracks equity and bond fund flows of 15,000 international and emerging market funds with US$7 trillion in assets - said on Jan 3 it was another record setting year for flows into emerging market equity funds. “Strong fund flows for Asia ex-Japan and China Equity Funds in the latest week (final week of 2006) suggests that the ripples caused by Thailand’s recent imposition of capital controls have rapidly faded,” it said in a report. EPFR said global equity funds recorded inflows of US$29.7 billion, a 51% increase on the tally for 2005 and the third straight year that these funds had posted a record for inflows. “It is clear that global investors continued to seek more global exposure in 2006 in comparing EPFR’s total universe of US and non-US equity funds,” it said. EPFR said total inflows into all non-US equity fund groups (including global, emerging markets, Europe, Japan, and Pacific region funds) amounted to US$116.5 billion in 2006, compared to US Equity Funds that sustained net outflows of US$15.9 billion.

Among emerging markets fund groups, it added that Asia ex-Japan funds raked in US$635.9 million in fresh money - of which flows into China Equity Funds accounted for more than half. BRIC Equity Funds, which invest in Brazil, Russia, India and China, ended the year with net inflows of US$4.3 billion. On Japan, it said despite the benchmark Nikkei 225 was at a seven-month high, it was not enough to spare Japan Equity Funds their eighth straight week of net outflows, thereby keeping this fund group on course to post net outflows for the first time since 2002. “The redemptions have come in spite of solid performance by Japanese equities which has added US$4.95 billion to the value of these funds’ collective portfolios since Nov 30,” it said. EPFR said Japan’s export story remains strong, in part due to its surprisingly weak currency. But its domestic story remains uncertain despite an economic recovery that is now in its fifth year. “With tighter fiscal and monetary policy on the horizon, investors question resilience of Japanese consumers and worry about a fresh bout of deflation,” it added.

1) Relative - The size of the funds into Asia ex-Japan went mostly into China, the rest got crumbs, nothing to shout about.
2) The Ringgit - This is crucial because a large motivating factor for continuing foreign purchases of equities into Malaysia lies on the outlook of the ringgit. Generally, the outlook is still good and I do not forsee any spectacular problems till the ringgit reaches 3.2 or thereabouts. The other good thing is the recent turmoil initiated by Thailand's central bank - this would serve as an excellent warning to Zeti and her team on HOW NOT TO SCARE the markets. Hence a sudden policy or capital movement change is unlikely, or largely will be watered down. Look for Zeti's opinions in the papers to monitor Bank Negara's shifts in policy thinking.
3) Interest Rates - Inflation will be a factor in 2007 as wages and prices move higher (higher tolls are but an indicator). As part of the policy to subsidise the economy less (which I strongly support), higher wages (esp in the public sector) and prices for goods and services are inevitable. The buffer is still there though. The strong ringgit is a lever we will rely on to a certain extent to manage the buffer. Bank Negara cannot really raise rates much further because that will send the ringgit higher too fast. Bank Negara's stance is quite obvious, it will allow the ringgit to appreciate in step with China's yuan. That is smart because in the end that is the main competitor in production of goods and services which we should benchmark upon. Hence on the interest rates front, it will be OK for the equity markets.
4) Timing - As usual, most equity rallies come in spurts, and the first and last quarters will still be the best period to invest or punt. Go away in May, come back in October, you will miss many anxious periods.
5) What can unbuckle the bullish undertone??? - Problems in China, politics, equity or property corrections. I am still a believer that the bullishness over Chinese banks is a tad overdone. In all likelihood, if there is a severe correction, it will affect other Asian markets more. Keep an eye there, and it also puts HK in the same boat as a large part of the stupendous rally in the Hang Seng last year was due to the large market cap and listings of China-related companies there. We can and should assume both markets as one.

I see a seperation of the influence of US and European equity markets on Asian markets. Just monitor China. Have a good, healthy, safe and prosperous 2007!


Jomaropol said…
Salvatore, I was wondering do you have any email which we can email you with, if we heard anything worthwhile?
Jomaropol said…
Dangers of 2007 - plentiful. The question is, is the economy strong enough to absorb the shocks?

What causes economic shocks? Herd mentality + panic dumping. Investors and traders are more savvy nowadays and more informed with the internet. Dollar crashing? No problem, let's buy gold. Gold prices has been going up , which means that investors are not putting all eggs in one basket.

Biggest threat in 2007? In my opinion it would be the change/reduction in consumption in the US. A small change equals in consumption equals big effect on China suppliers, which are already facing a glut of suppliers. Bush also did signify his intention to help the US cut consumer spending (he always says that right before the presidential election), however what he really does is what really matters.

Looking at the first few days of 2007 is a bit of a worry though for the Dow. Where it goes tonight and these few days might be an indicator of what 2007 might bring. As I speak, markets all over the regions are in the red. Everyone's watching the Dow tonight.

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