MORNING BID: The deepening EM selloff
The contagion is building. Major world markets are taking it on the chin, U.S. stocks have slumped, and major asset managers in Europe are seeing shares fall, with some citing corporate exposure to emerging markets in general and Spanish exposure to Latin America in particular.
Safe havens – from Treasuries to gold to the yen and Swiss franc – are way up. And really, while specific country issues are in play here, (Argentina is, well, Argentina), the removal of liquidity on one side of the world and a slowing economy on the other is enough to shake out some long-held notions of what’s going to be the environment.
Coming into the year, a prevalent view was that 2014 would work out as something similar to 2013; stock multiples would rise more, bond prices would fall, keeping yields higher, and investors would keep moving money into stocks, with the primary analysis being something along the lines of, “What else ya gonna do?” But January has, if anything, been a lesson in debunking just about all of the preconceived notions the market held onto at the end of last year.
U.S. stocks still haven’t done all that badly. Bond yields are lower, though, which wasn’t expected, and that comes at a time when fund managers are operating with some pretty dug-in ideas. As Bank of America-Merrill Lynch put it in a comment Thursday: “No one thinks stock markets will fall this year; our January survey revealed just 6% of investors believe bond yields will decline in 2014 and the level of distaste for Emerging Markets was tangible.”
Merrill itself falls into this category; they’re on the bullish side too, with their preferences being the US, Japan, real estate and high yield, relative to commodities, emerging markets and bonds. So those bets are being tested as well.
It’s not enough to say that what’s happening represents some kind of comeuppance from all of those who have gotten fat and happy on the market’s extended gains. After all, plenty of people dislike emerging markets, and they’re still dropping regardless of sentiment (and regardless of the usual contrarian “it’s gonna end!” type opinions starting to emerge, tentatively).
The pain trade is really rewarding investors by going into the bond market. The world economy does seem to be improving – though a weak Chinese manufacturing survey set off a cascade of selling across emerging markets that roped in some of the world’s weakest sisters already dealing with their own issues (Turkish lira, Russian ruble, South American bond markets, particularly Argentina and Venezuela.)
The selling has resulted in a bit of soul-searching. Manik Narian, emerging markets strategist at UBS in London, told Reuters’ Sujata Rao-Coverley that, “until now, there has been a lot of dedication shown by institutional investors in EM debt but possibly that’s being shaken now. There are signs it’s becoming a more broad-based move.”
The removal of liquidity figures to be an ongoing theme throughout the year, and that’s going to hit the more vulnerable markets – those nations with ugly balance-of-payments statements that reflect importing capital to pay for domestic spending.
It’s what felled Iceland a few years back, and looks to hurt Argentina once again, prompting the country to try to stop defending the peso, causing the worst one-day drop since 2002 on Thursday. (The economy minister said today that it wouldn’t allow it to continue to devalue, so file that under “Empty Threat of the Day.”)
The real question is how far the selling goes, how far developed market selloffs will go, and whether those looking for disaster are finally being vindicated.