March bulls give way to April bears in emerging markets
The dust has settled on a scintillating first quarter for emerging markets but the cross-asset rally of the first three months has already run out of steam. A survey by Societe Generale of 69 EM investors shows that over half are bearish — at least for the near-term.
This marks quite a turn-around from the March survey, when 80 percent of investors declared themselves bullish on emerging markets. What’s more, investors are currently running very little risk and 47 percent of hedge fund respondents (these make up half the survey) feel they are over-invested in EM. (The following graphic shows the findings — click on it to enlarge)
Almost a quarter of the hedge fund and real money investors are neutral tactically on the market, compared to just 4.5 percent last month. Serious optimism has dried up, SocGen commented:
Looking at the distribution of answers, it is quite clear that the mega-bullish investor on EM has disappeared at this point.
The return of worries about the euro zone debt crisis, U.S. growth and a slowdown in China have all contributed to a higher degree of pessimism on financial markets. It’s not all gloom though. Looking at emerging markets over the next 3 months, sentiment does pick up, with 64 percent of investors bullish. So this falling out of love with EM could be a temporary blip.
Only 13 percent of investors were more bearish on a 3-month time horizon than over the next two weeks. That included 83 percent of real money investors that believed in an improvement in the GEM outlook from two weeks to three months.
Time for a slice of vol?
As the global markets consensus shifts toward a “basically bullish, but enough for now” stance — at least before Fed chief Bernanke on Monday was read as rekindling Fed easing hopes — more than a few investment strategists are examining the cost and wisdom of hedging against it all going pear-shaped again. At least two of the main equity hedges, core government bonds and volatility indices, have certainly got cheaper during the first quarter. But volatility (where Wall St’s Vix index has hit its lowest since before the credit crisis blew up in 2007!) looks to many to be the most attractive option. Triple-A bond yields, on the other hand, are also higher but have already backed off recent highs and bond prices remain in the stratosphere historically. And so if Bernanke was slightly “overinterpreted” on Monday — and even optimistic houses such as Barclays reckon the U.S. economy, inflation and risk appetite would have to weaken markedly from here to trigger “QE3″ while further monetary stimuli in the run-up to November’s U.S. election will be politically controversial at least — then there are plenty of investors who may seek some market protection.
Societe Generale’s asset allocation team, for one, highlights the equity volatility hedge instead of bonds for those fearful of a correction to the 20% Wall St equity gains since November.
A remarkable string of positive economic surprises has boosted risky assets and driven macro expectations higher but has also created material scope for disappointment from now on. We recommend hedging risky asset exposure (Equity, Credit and Commodities) by adding Equity Volatility to portfolios.
Japan… tide finally turning?
Until recently, when you mentioned ”Japan” in the investment context, you could almost hear a collective sigh of disappointment — it was all about recession, deflation and poor investment returns.
However, sentiment does seem to be finally changing, not least because Tokyo stocks have rallied almost 20 percent since the start of the year, outperforming benchmark world and emerging indexes.
The yen has also been on a (rare) declining trend since the start of February, with the selling momentum accelerating since the Bank of Japan set an inflation goal of 1 percent in a surprise move and boosted its asset buying programme by $130 billion on Feb 14.
A closely-watched survey by Bank of America Merrill Lynch showed record optimism on Japan’s growth among fund managers, with a net 91 percent of Japanese fund managers saying they expected the domestic economy to strengthen. That’s up from a net 47 percent two months ago.
Overall, survey partipants worldwide slashed their underweight positions on Japanese equities to a net 4 percent in March from 23 percent last month. This is the smallest underweight position on Japan since August. According to Gary Baker, head of European equity strategy at BofA Merrill:
There’s quite a change in sentiment towards Japan. If you have global growth then Japan… is a big cyclical region to benefit from that. While investment story is the same, what changed there is the yen weakness… it becomes easier to play the story.
Retreat of Tail-Risk Trinity
Until this week at least, one of the big puzzles of the year for many investors was squaring a 10-15% surge in equity indices with little or no movement in rock-bottom U.S., German and UK government bond yields. To the extent that both markets reflect expectations for future economic activity, then one of them looks wrong. The pessimists, emboldened by the superior predictive powers of the bond market over recent decades, claim the persistence of super low U.S. Treasury, German bund and British gilt yields reveals a deep and pervasive pessimism about global growth for many years to come. Those preferring the sunny side up reckon super-low yields are merely a function of central bank bond buying and money printing — and if those policies are indeed successful in reflating economies, then equity bulls will be proved correct in time. A market rethink on the chances for another bout of U.S. Federal Reserve bond-buying after upbeat Fed statements and buoyant U.S. economic numbers over the past week also nods to the latter argument.
But as we approach the final fortnight of the first quarter, more seems to be going on. Much of the whoosh of Q1 so far has merely been a reversal of the renewed systemic fears that emerged in the second half of last year. In fact, gains in world equity indices of circa 13% are an exact reversal of the net losses suffered between last June and the end of 2011. And if those gains are justified, then much of the extreme “tail risks” that scared the horses back then must have been put to rest too, no? Well, the two mains tail risks — a euro zone breakup or collapse and a lapse of the U.S. economy into another recesssion or depression — do look to have been been put to bed for now at least. The ECB’s mega 3-year cash floods in December and February and the “orderly” Greek debt default and restructuring last week have certainly eased the euro strain. The remarkable stabilisation of U.S. labour markets, factory activity, household credit and even retail sales has also silenced the double-dippers there for now too.
The net result seems to have been this week’s synchronised retreat in three of the main “catastrophe hedges” — gold, AAA-government bonds and equity volatility indices — and this move could well mark a critical juncture. Gold is down 8% since its 2012 peak on Leap Day, 10-year U.S., UK and German government bond yields are up 25/30 basis points since Monday alone, and equity volatility gauges such as Wall St’s ViX have dropped to levels not seen since before the whole credit crisis exploded in the summer of 2007. If extreme systemic fears are genuinely abating and the prevalence of even marginal positioning like this in investment portfolios is being unwound, then there may well be some seismic flows ahead that could add another leg to the equity rally. The U.S. bias in all this is obvious with the rise of the dollar exchange rate index to its highest since January. That has its own investment ramifications — not least in emerging markets. But the questions for many will remain. Is the coast really clear? Are elections over the coming weeks in France and Greece and an Irish referendum on the euro fiscal pact just sideshows? Is the global economy sufficiently repaired to bet on renewed growth from here and will corporate earnings follow suit? Has bank and household deleveraging across the western world halted? Are the oil price surge and geopolitical risks in the Middle East no longer a concern? And if you’ve made 10-15% already this year, are you going to go double or quits? The chances are there will not be 10-15% equity gains in every quarter this year.
State vs entrepreneurial capitalism
The post-crisis world has been in part shaped by the growing presence of sovereign wealth funds, which have become an important source of funding with their $4 trillion assets, replacing private equity and hedge funds. But some people are wondering whether state capitalism really is the way forward, to boost the potential growth rate of the post-crisis world.
Robert Litan, senior fellow at the Brookings Institution, believes that in fact it’s entrepreneurs who would play a key role, and it’s important for policymakers to come up with a mechanism to help them.
Litan estimates that the United States needs 30-60 new “home-run” firms a year with annual sales of $1 billion to boost U.S. growth rate by one percentage point beyond its post-war average of 3 percent. This is double the past 150-year average of 15 firms a year.
“Enterpreneurial capitalism is the defining concept of 21st century economics. The state firm model might work for countries that are behind, but at some point we need entrepreneurship,” Litan told a briefing hosted by Legatum Institute, an independent public policy think tank.
Litan, who is also vice president for research and policy at Ewing Marion Kauffman Foundation, says “crowd funding” is one innovative way to help entrepreneurs.
Currently popular with film, tech and art start-ups, crowd funding is a new capital-raising technique that allows investors to take small equity stakes in new firms over the Internet.
Two months rally + long markets = correction?
The debate in global financial markets is whether the new year’s rally is either just pausing or coming to an end.
Many say the rally so far has been driven by only thin volumes (for more on volumes read this story) and thin volume rallies tend to outlive high volume stampedes.
The market certainly seems to be getting very long — which itself suggests that the market was due for a correction one way or another.
Data Explorers, provider of securities lending data tracking and short selling and fund activity across 20,000 institutional funds, says the value of stock on loan stands at $706.5 bln as of the beginning of March, its highest since December 7, against a lendable supply of $7.4 trln.
(Click on the graph to enlarge)
Hedge funds still lagging behind
How are hedgies performing this year?
The latest performance data from Nice-based business school EDHEC-Risk Institute shows various hedge funds strategies returned on average 1.46% in January, far behind the S&P 500 index which gained almost 4.5%.
Emerging markets strategy was the best performing, with gains of 4.55%. Interestingly, this is less than half of how the benchmark MSCI EM index performed (up more than 11 percent in the same period).
On the downside — unsurprisingly — short selling lost 6.85%.
EDHEC says equity-focused strategies showed strong performance overall, hitting a five-month high, thanks to their increased market exposure.
Meanwhile, Bank of America-Merrill Lynch’s fund managers survey also showed hedge funds are raising their gearing levels. The ratio of their gross assets relative to capital rose to 1.49 this month from 1.22 in January.
How socially responsible is your investing?
Is your investment ethically sound and socially responsible?
A new survey by consulting firm Mercer finds that only 9% of more than 5,000 investment strategies achieve the highest environmental, social and governance (ESG) ratings.
Socially responsible investing (SRI) involves buying shares in companies that manage ESG risks. For example, firms that make clean technologies are favoured, while businesses which pollute the environment, are complicit in human rights abuses or nuclear arms production are shunned. All this sounds good, but the performance of such investments has been somewhat mixed — meaning being good doesn’t always mean doing well. But the SRI industry is hoping that greater involvement of funds, especially long-term ones such as pension funds and sovereign wealth funds — may generate flows into the sector and lead to better performance.
Of the 5,175 strategies assigned ESG ratings, 57% are in listed equities, 20% fixed income and the remaining 23% across real estate, private equity, hedge funds and others.
Private equity has the highest proportion of highly rated ESG strategies, while hedge funds and fixed income had the fewest. From a geographic perspective, emerging markets and Asia-Pacific have the highest proportion of top ratings, while Canada — and this may come as a surprise to some — has the least.
from MacroScope:
Who are hedge funds dating?
The world of hedge funds is as mysterious as it is profitable, and remains highly opaque even after a raft of new reforms aimed at strengthening financial stability. While there is general agreement among policymakers that the the so-called shadow banking system was at the epicenter of the financial crisis of 2008, hedge funds still face little or no regulatory scrutiny, despite their size and importance in financial markets.
That worries Andrew Lo, a professor at MIT’s Sloan School of Management. For him, the basic registration requirements for hedge funds are not nearly sufficient to give regulators a broad sense of the potential risks present in the markets. On the sidelines of an International Monetary Fund meeting, Lo compared the relationship to that of a parent keeping tabs on a growing teenage child.
Let’s say you’re a parent and your child has started dating. You don’t necessarily need to know everything they are doing, but you’d at least like to know who they are going out with.
That’s a particularly apt analogy since the main concern for financial sector regulators is that losses in the unregulated sector might deal a large blow to the banking system itself, forcing another round of bailouts.
Lo, who also runs an investment fund called Alpha Simplex, said during his presentation that the Dodd-Frank financial reform law still leaves regulators powerless to manage this highly-influential part of the financial system:
Central banks simply don’t have the tools right now to deal with this sector. They cannot control leverage or stop runs that go on in the sector, in the same way that they couldn’t control Bear Stearns and Lehman Brothers, and in the same way that they cannot control what’s going on today with MF Global.
from MacroScope:
Giant FX market now $4 trillion gorilla
Global foreign exchange has always been one of the biggest markets in the world but its exponential growth keeps accelerating. The triennial survey by the Bank for International Settlements shows global foreign exchange market turnover leapt 20 percent to $4 trillion, compared with $3.3 trillion three years ago.
The increase in turnover was driven by growth in spot transactions, which represent 37 percent of FX market turnover. Turnover was driven by trading activity by "other financial institutions" -- a category that includes hedge funds, pension funds and central banks, extending a trend seen in the past several years where buyside firms are increasingly trading currencies themselves, via prime brokerage, rather than turning to interbank dealers.
Also notably, emerging market currencies are gradually increasing their share in the marketplace. Turnover of the Russian rouble has increased its share in total turnover to 0.9 percent of 200 percent (FX is double counted as transaction involves two currencies), up from 0.7 percent three years ago, while the Brazilian real rose to 0.7 percent from 0.4 percent. The Indian rupee's share rose to 0.9 percent from 0.7 percent. The dollar keeps its dominance, although off its 2001 peak, with its share standing at 84.9 percent.
I quote the BIS report page 7: “Global foreign exchange market turnover was 20% higher in April 2010 than in April 2007, with average daily turnover of $4.0 trillion compared to $3.3 trillion. The increase was driven by the 48% growth in turnover of spot transactions, which represent 37% of foreign exchange market turnover. Spot turnover rose to $1.5 trillion in April 2010 from $1.0 trillion in April 2007.”
